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Wednesday Morning June 1, 2011
Quote of the Day
Learning to trust is one of life's most difficult tasks.
Isaac Watts
The oil complex firmed on Tuesday in spite of the bad news that hit the media airwaves in the form of negative macroeconomic data. All of yesterday's US macroeconomic data was bearish suggesting that the US economy is slowing to a snail's pace while the data coming from other parts of the world was mixed at best. No matter how we slice and dice the data at this point in the week it all points to a slower growth pattern for the global economy which in turn should result in a slackening of global oil demand growth. However, the way the market reacted to the bearish news suggests that we are fully in a mode where oil prices are looking for any excuse to push higher as we saw the market quickly discount the bearish news and will likely overly embrace anything that is remotely bullish.
On top of the weak economic data the fact that the EU sent out signals yesterday suggesting that yet another bailout is likely in the cards for Greece was enough to firm the euro at the expense of the US dollar ( and other major currencies). The direction of the US dollar remains highly (inversely) correlated to the direction of oil prices and a weaker US dollar has been supportive of higher oil prices (and other major commodities) so far this week.
Around the world China's PMI data came in last night below last month but marginally above the market expectations. China's manufacturing sector expanded at a slower pace in May basis the May PMI index falling to 52 versus April's 52.9 but above the market expectations of 51.6. A reading over 50 still suggests an expansion in the manufacturing sector but at a slower pace. The aggressive monetary tightening that has been in place in China for almost a year is keeping a lid on growth in China. This coupled with many other countries' economies slowing has likely reduced the requirement for goods produced by China and thus eventually oil and commodity demand in China. So far the market has mostly ignored the China data (again discounting the negative news).
In fact overnight several other countries reported a slowing of their manufacturing sectors basis a reduction in their current PMI number versus last month. Taiwan, India, Ireland, Sweden, Turkey, Poland, Spain, Czech, Italy, Germany, France, UK and South Africa to name a few all saw their manufacturing sectors slow during the month of May. It seems that a global slowdown in manufacturing may be under way and that is certainly not very bullish for oil consumption nor consumption for most any traditional commodities. Adding to the downturn in manufacturing just discussed Australia's economy contracted 1.2% in the first quarter. The decline was the largest drop since the March quarter of 1991. The natural disasters that hit Australia have had a significant impact on the lack of growth in the economy.
Overall the oil market remains in a "look for a reason to buy mode" rather than being ready for any significant sell-off at the moment. The US dollar push was enough to send oil out of its technical triangular consolidation pattern closing above the $101.50/bbl resistance level basis the spot WTI contract. Whether or not there is enough momentum in the short term to send prices to the next technical test of the longer term range high of $104 to $104.50/bbl is still a question.
Yesterday the very volatile month of May entered the history books. As shown in the following EMI Investment Leader Board (table below) most all of the major commodity and financial risk assets are still in positive territory for the year to date with almost half of the year in the history books. The main price leading asset class after five months was the oil complex with spot RBOB gasoline still the number one asset investment for the year to date with an almost 32% gain reflecting a narrowing of the supply overhang than existed throughout most of last year. Crude oil was a close second with Brent taking the lead with a gain of 25.4% or $23.64/bbl. Brent has appreciated about $11/bbl over WTI during the first five months of 2011 as the crude oil inventories in PADD 2 and Cushing, Ok remain at above normal levels. Obviously the main reason for the oil complex surging into the top spot for an asset class on the EMI Leader Board has been the evolving situation in North Africa and the greater Middle East as well as slowly improving fundamentals... although both of these could be on the cusp of changing a bit.
Even Nat Gas performed well with a year to date gain of about 7.56% or $0.328/mmbtu basis the spot Nymex Nat Gas contract. All in all it has been a positive for Nat Gas so far this year with winter weather this year colder than last year helping to offset or absorb the robust supply situation in this sector of the energy industry. Also with rig counts dedicated to Nat Gas in decline we could see supply starting to ebb a bit in the coming months. Looking at the Nat Gas situation from a macro perspective I would say that the worst of the overhang and downward pressure on prices could finally be over.
In the metals area Silver was the clear cut winner for the first five months of the year even after the huge downside correction in May with a gain of 26.02% as Gold lagged strongly behind gaining just 9.27% for the year to date so far. On the industrial side of the equation copper actually declined over the first five months by 4.4% principally as a result of the Chinese governments' aggressive approach to fighting inflation by intentionally attempting to slow their surging economy. With the latest PMI number released overnight (see above discussion) copper may be getting ready for further declines as the Chinese government reported a further slowing in their manufacturing sector.
Agricultural commodities were mixed so far this year with corn the leader in this asset class showing a gain of 21.35% or $131.50/bushel. The combination of gasoline based consumption of corn (corn based ethanol) and growing demand on the food side corn as well as the rest of the agricultural space is likely to remain firm for the foreseeable future. How much stronger prices get will be dependent on the size of the upcoming crop as well as how the weather evolves during the growing season. The weather has been a problem especially in the major planting regions of the US with the huger floods from the Mississippi river. On the negative side for the grain market Russia just yesterday announced they will be removing their export restrictions on agriculture products beginning in July.
The financials are mixed so far this year with a significant amount of uncertainly around the world as well as central banks fighting both inflation in some countries as well sovereign debt issues in others. The broad based EMI Global Equity Index is lower by 1.69% for the first five months of the year with the US still holding the number 1 spot in the winner's column for 2011. Equities have been mostly positive for oil prices as well as the boarder commodity complex for most of the year but not so much over the last month or so.
The currency markets are in the midst of a major realignment with the developed world on the cusp of transitioning from an easy money policy to one that has inflation in the cross hairs. For the year the US Dollar Index lost 5.98% while the Euro surged higher by 8.26% even as the lingering sovereign debt issues continue to overhang the entire EU economy.
With the markets looking for oil price direction we may see the fundamentals have a directional impact yet again this week. At the moment with all of the financial uncertainty permeating around the global markets it is difficult to say when this week's report will impact the market. The normal weekly reports get underway late this afternoon when the API data will be released at 4:30 PM EST followed by the more widely watched EIA data on Thursday afternoon at 1 PM (EST). My projections for this week's inventory reports are summarized in the following table. I am expecting mixed report with a modest decline in crude oil stocks as a result of an increase in refinery utilization rates. I am even expecting a decline in gasoline inventories for the first time in three weeks while we should see the first build in distillate fuel stocks of the season. I am expecting crude oil stocks to decline by about 1.0 million barrels. If the actual numbers are in sync with my projections the year over year surplus of crude oil would come in around 6.7 million barrels while the overhang versus the five year average for the same week will widen to 25.2 million barrels.
Even with refinery runs expected to increase by about 0.5% I am expecting a modest decline in gasoline stocks as demand likely increased (due to the holiday weekend in the US). Gasoline stocks are expected to draw by about 0.5 million barrels which would result in the gasoline year over year deficit hovering near the 9.8 million barrel mark while the deficit versus the five year average for the same week will switch back to a surplus of about 1.5 million barrels. All eyes will be focused on the gasoline number once again this week after last week's surprise build in stocks for the second week in a row. Gasoline demand is definitely on the defensive even as last week's implied demand number increased marginally as retailers got ready for the long holiday weekend in the US.
Distillate fuel is projected to increase modestly by 0.4 million barrels on a combination of minimal weather demand as well as an increase in production. The weather forecasts are a neutral for heating oil especially for this time of the year. If the actual EIA data is in sync with my distillate fuel projection inventories versus last year will likely now be about 11.5 million barrels below last year while the overhang versus the five year average will be around 10.7 million barrels.
Net result the US continues to remain well supplied but the deficit versus last year for the main refined products is still mildly supportive but this could be changing if the destocking pattern that has been in place begins to change.
The following table compares my projections for this week's report (for the categories I am making projections) with the change in inventories for the same period last year. As you can see from the table last year saw across the board declines in inventories versus this week's projected mixed report. In fact the declines last year are much greater than this week's projections so in general the fundamentals are going to lose ground versus last year.
As usual do not overreact to the API data which will be released later today as more often than not it is not in line with the more widely followed EIA data. If the EIA report is within the projection I would expect the market to view the results as neutral to marginally bearish. However, whether or not the market reacts at all to the inventory report will be dependent on what is going on in the financial markets and the direction of the USD.
My individual market view is detailed in the table at the beginning of the newsletter. As I mentioned above WTI has broken out to the upside as it is now solidly trading above the technical triangular consolidation pattern that it has been in for a few weeks. The market closed above the $101.50 level thus increasing the probability that WTI may work its way to the broader range high of $104/bbl. If so we could see higher prices in the short term. For the short term I am keeping my overall view at neutral and my bias at cautiously bullish based on the premise that we closed above $101.50/bbl today and the market sentiment seems to want to go higher. If anyone does take on a long position use the $101.50/bbl as a stop and if the market does go higher you should trail the stop wit the market gains.
I am maintaining my Nat Gas view at neutral and keeping my bias at neutral while I digest and analyze where we are likely to go next. I am looking at the technical breakout point once the market settles above the $4.70 to $4.71/mmbtu level. When it does I will start to get a bit more positive in the short term outlook for Nat Gas prices moving to a test of the next significant point of $5/mmbtu.
Finally today is the kick-off of the 2011 hurricane season. Time to watch the daily tropical weather forecasts once again although there is generally not too much activity early in the season. Last year it was one of the most active hurricane season in years. Fortunately most of the storms remained out in the north Atlantic and not near the oil and Nat Gas rich part of the Gulf of Mexico. This year the forecasters are calling for less storms than last year but more storms are expected to work their way to landfall in the US.
Currently asset classes are marginally lower as shown in the following table.
Best regards,
Dominick A. Chirichella
dchirichella@mailaec.com
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