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CRUDE OIL MARKET FUNDAMENTALS: While trading in crude oil has been choppy and two sided at times overnight, a downward price bias seems to be taking hold. In fact, if it wasn’t for the gains in global equity markets including early indications of stronger US stocks indexes, we suspect the oil market would be trading a lot lower. The rally in crude oil off the July low has been based on a revival in macroeconomic optimism and expectations for a recovery in oil demand tied to equity market gains, but the market’s internal fundamentals don’t support this view. In fact, yesterday’s EIA report showed total product demand was still down 4.8% over the past four weeks compared to year ago. The EIA report also gave other clear warning signs for crude oil demand with the sharp drop in the refinery operating rate pointing to lower industry oil demand. With several major US refiners either idling production or closing down facilities due to poor profit margins, the outlook for oil feedstock demand certainly looks bearish. Although crude oil stocks have been steadily falling since mid-May, total oil supplies remain 47.2 million barrels above year ago levels. Also, the rate of decline in oil stocks continues to slow, and with refiners reducing operations, we suspect crude oil supplies could start to build again. A report showing Japan’s oil imports fell over 19% in June compared to year ago with refinery rates at a low 70% is another clear indication that oil demand in major consuming countries remains weak. If equities continue to push higher, it may be enough to temporarily prevent a significant slide in crude oil and may even inspire some additional gains. But once the earnings euphoria is priced in and equities turn lower, we suspect there is the potential for September crude oil to head back towards the $60 price level. Given the outlook for a weak economic recovery and the production cutbacks being done by refiners, the bearish fundamental setup for crude oil would seem to leave more downside than upside price risk in place.
GASOLINE: After yesterday’s strong close and the early attempt to push gasoline higher overnight, it is clear that the trade initially saw yesterday’s EIA report as positive. The trade seemed to be taking the view that the 813,000 barrel rise in gasoline stocks was in line with expectations and that the sharp drop in refinery operations could lead to a tightening in supplies. But we see the rise in gasoline stocks as a significant bearish signal given the 2% drop in refinery operations since it clearly indicates that demand at the height of the summer driving season remains anemic. With the tail end of summer approaching, gasoline demand will be peaking soon and if gasoline imports stay high, there is even the potential for gasoline stocks to still build despite lower refinery operations. Macro economic optimism tied to equity market gains along with the generally weak trade in the Dollar is providing a measure of support to gasoline prices. But if these outside markets turn less supportive or the trade begins to focus on the market’s bearish supply/demand setup, we think there is a good chance for September gasoline to head back to the $1.74 to $1.70 price range. Key resistance for September gasoline comes in at $1.8273 then at $1.8585 with support near $1.7971 and then $1.7830.
HEATING OIL: It certainly seems as if the majority of price support for heating oil is stemming from the macro economic optimism tied to gains in global equity markets. But even that support seems to be fading with September heating oil beginning to back away from overnight highs. In fact, with distillate stocks continuing to build and supplies at 25 year highs, the heating oil market is looking a bit expensive up at these price levels. We think it was particularly bearish to see a 1.2 million barrel jump in distillate stocks when refinery operations fell by 2% and that clearly shows industrial and transportation demand for the fuel remains weak. And the trend in fuel demand shows no improvement with the EIA reporting an 11% decline in distillate demand over the past four weeks compared to year ago. Now that September heating oil has corrected from a technically oversold condition from the July lows, we suspect the market’s bearish fundamental setup will eventually pull September heating oil back towards the $1.65 price level. Look for more aggressive chart based selling if September heating oil fails to hold support at $1.7229 and $1.6963 (the 200 day moving average) with key resistance at $1.7696.
TODAY’S ENERGY MARKET GUIDANCE: This week’s inventory reports clearly showed the supply/demand situation of energies remains bearish. Therefore, with oil markets looking a bit expensive up at these price levels it certainly raises the risk for a significant downside correction. If equity markets begin to weaken and the Dollar recovers to turn outside market influences bearish, rising investor risk aversion could weigh heavily on oil.
