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Crude Oil Is ready To Top Out (Again) – SPDR S&P 500 Trust ETF (NYSEARCA:SPY)

The personal American Petroleum Institute and the public Power Information Administration reports confirmed a relentless theme with crude inventories climbing for the third straight week following hurricane Harvey. Gasoline and distillate inventories have dropped for the third straight week. This broad theme is smart, given the unprecedented disruption in the refining capacity and distribution community.

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API reported weekly inventories exhibiting a gain in crude stocks of 1.4mm barrels. This compares to a build of 6.2mm barrels final week. Gasoline inventories continue to deplete with a drop of 5.1mm barrels. Distillates dropped about 6.1mm. EIA reported crude stocks increased 4.6mm barrels versus 3.5mm expected (although this probably had come down after the API number). Gasoline fell by 2.1mm barrels, in keeping with expectations. Distillates showed a big drop of 5.7mm in comparison with 1.6mm expected.

As now we have mentioned before, monitoring inventories will be very difficult. Throw in the loopy hurricane season, and the weekly estimates flip into pure guesswork. Most trade consultants expected the infrastructure blockage to last anyplace from two weeks to two months (not to mention gasoline provides had been additional impacted by folks “topping off” in anticipation of shortages). As it seems operations are returning to regular, the pattern coming out of the month period might be what is most important to watch. Inventories are still well above the long run average, so a sluggish depletion nonetheless leaves plenty of supply to weigh on costs. The excessive inventory mark (excluding the government’s Strategic Petroleum Reserve) was about 535mm barrels at the tip of March of this 12 months and early in 2016. The average inventory degree during the last 35 years has been about 350mm with 375mm being the level earlier than the large run-up in 2015. The present level is 473mm barrels. There is a bit of back in forth on this. However as typical, don’t look at the latest headlines or short-time period trends. The lengthy-term development is what issues right here. And, we think the overriding theme is that US stock stockpiles are going to be at excessive ranges.

US Crude Oil Ending Stocks Excluding SPR knowledge by YCharts
We’re assured in this assessment as a result of US shale simply keeps pumping. Complete US manufacturing for the last week reached 9.5mm barrels. This is again up from the hurricane low of just under eight.8mm barrels per day. oil & gas production operator Earlier in the year, it was anticipated that the continued pickup in shale drilling would push the US to 10mm per day by the tip of this yr or early next yr. We thought this timetable can be pushed back because of the hurricanes, but apparently not. Relating to shale, the Permian guys simply keep innovating. The Wall Road Journal ran an interesting article the other day, detailing how the brand new wildcatters are actually ready to use west Texas sand as an alternative of getting it delivered from Wisconsin. The sand in West Texas is very high-quality (actually from desert-like sand dunes) compared to the coarse sand in Wisconsin. Beforehand, the sand needed to be “tough” in order to effectively do the fracking. But now, expertise allows for the much finer and far cheaper sand to be used.

US Crude Oil Field Production data by YCharts
One other variable to contemplate which balances out the equation a bit is US crude oil exports are on the rise. The degrees are obviously low on an outright basis. And, even the growth fee is sluggish nominally. However we do anticipate this to select up (continued lower regulation, cheaper worth, and refined product exports are growing, too).

US Crude Oil Exports data by YCharts
In distinction to the US side of the oil equation, OPEC and its band of (largely) rogue cronies keep trying to put a lid on global supply. This extended cartel manufacturing agreement runs by means of March of 2018, however there’s current speak of them extending the cuts. Iraq’s oil minister spoke vaguely about the potential for extending the cuts, growing the cuts, or each. This group meets this Friday. Compliance with the agreed cuts is the true issue. OPEC claims that compliance is in the mid to high ninety’s%. The IEA claims it’s in the ballpark of 75% with the non-OPEC international locations working at about 67%. These reports are a number of weeks old now, so we are going to in all probability get new numbers shortly. Furthermore, demand for oil just isn’t supposed to increase dramatically during the remainder of this yr whereas US shale production keeps pumping. So, anything however an aggressive move (with actual compliance) from the cartel will possible fall flat.

We’ve argued up to now that Saudi Arabia is hell bent on getting the price of oil increased so it could possibly float a bit of its state-owned Saudi Aramco oil business at an excellent price. However rumors have been swirling currently that this IPO course of is transferring even slower than initially thought. Tough estimates are looking like a 2019 launch. Saudi had initially hoped for a late 2017 debut (no stories yet if Saudi is coming around to the reality that the valuation will be much lower than anticipated even with a higher oil value). On prime of this, Saudi has finally started to courtroom international participation in as soon as state-dominated industries. Simply this week, a building and building conglomerate known as Oger essentially went beneath. That is, Saudi is not backstopping it. Public sector spending has dropped from $60b to underneath $15b in only a few short years. The purpose of all of that is that Saudi seems to be shedding its motivation for greater oil prices.

To recap, we think US inventories are normalizing. We are going to in all probability see some extra depletion on account of exports growing and backed up refining capability, however the overall stage will stay high. US producers will keep pumping as oil & gas production operator much as possible. Saudi and its cohorts will speak a big game about chopping manufacturing, however with compliance low and motivation waning, we expect it is mostly simply bluster. We have not talked about the CFTC dedication of traders report yet – principally the online lengthy position in crude oil stays elevated. plant It is down from the close to 500k contract degree in April of this 12 months. However it is still hovering simply beneath 400k contracts. We would like to see some liquidation under the 300k stage for a technical/buying and selling purchase sign. All of this tells us that oil is likely range certain.

Two specific trades we now have preferred have been shorting WTI (USO) when it breaks above $50 and shorting the Brent-WTI unfold when it will get to over $6. With WTI above our stage and the unfold round our level, we now just want to brief Brent (BNO).

Brent WTI Unfold data by YCharts
As we’ve got said, we prefer to trade the futures for simplicity (no borrow concerns, no K-1, better liquidity, no ETF slippage, potentially higher taxation).

To be clear, this is a tactical trade that requires monitoring. We are lengthy royalty streams within the Permian, so we are clearly believers in oil. But we expect the very manufacturing we’re long will keep a cap on the value in the medium time period.

Disclosure: I am/we are quick BNO.
I wrote this article myself, and it expresses my very own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I don’t have any enterprise relationship with any company whose stock is talked about in this article.