Overall U.S. Stocks Build While Crude Draw Disappoints

Commercial oil stocks built 5.2 million barrels this past week, sharply contrasting with last year’s 6.7 million-barrel inventory draw for the same week. The entire build was in NGLs but the expected large crude stock decline did not materialize onshore as crude imports were bloated by a drawdown of floating stocks. Floating crude and even onshore stocks in major entrepot areas pose a challenge to estimating onshore stocks in key price-setting markets. There is a huge surplus of inventory which will take time to eliminate. So while crude stocks are undoubtedly declining, declines might not show up in the weekly onshore data in a given week.

1Q16 U.S. Producer Survey Harkens Back to Better Times

In response to a fleeting improvement in market conditions, U.S. gas producers grew production once again in 1Q16. Appalachian producers led the change, delivering an additional 1.2 BCF/D versus 4Q15 through the utilization of infrastructure that had been built towards the end of last year. Yet, the combination of stronger production and weaker heating demand gave rise to record inventories by end March, necessitating a subsequent reversal in production as a means for rebalancing. Thus far, the trend in 2Q16 production data suggests that U.S. producers are taking heed of this requirement, establishing a definitive change in course for PIRA’s Survey Group.

Brexit Clouds Demand Outlook, Dark Spreads to Hold on Bearish EUAs

The Brexit vote starts a highly uncertain transition period for the U.K. and the rest of the European Union. This transition period will likely mean weaker economic growth, especially in the U.K., and with that, downside risks for demand. However, U.K. winter prices should be largely unaffected by the Brexit decision. We assume for now that a political contagion will remain in check, but the major risk to Continental power prices resides now in an even more bearish EU ETS. While the EU ETS could be severely wounded in the current environment, domestic carbon initiatives – the French carbon floor or the like – are likely to move forward.

Brexit Vote Stops Coal Pricing Rally

Global equity, currency, and commodity markets were dominated by the Brexit vote last week, coal included. Before the vote, coal prices has been volatile, although with a general upward trajectory. The decline in prices on Friday sent Atlantic Basin Prices into negative territory for the week, if only marginally, while FOB Newcastle (Australia) prices were able to manage to rise in the prompt, although deferred prices faded. With the vote kicking off a likely two-year negotiation period between the U.K. and the E.U., there are limited fundamental changes to the coal market over the short-term, aside from a prevailing sense of unease and a lower appetite for risk.

Fed-Centric Financial Markets Now Roiled by Brexit

Since March, Fed policy communications have generally supported market sentiment and kept the dollar’s value in check. However, U.K. voters unexpectedly chose to leave the European Union in the June 23 referendum, and this has placed financial markets in a new, uncertain phase. PIRA’s expectation is that the Fed will reassert its control over markets after the initial Brexit shock wears off. During previous episodes of financial stress and a stronger dollar, the Fed adjusted its message to alleviate market pressure; it should not act differently this time around.

Volatility to Remain High

After a trading week that included a limit down move in corn along with all the uncertainty of the Brexit vote, grain/oilseed markets should be staring at yet another volatile week as corn pollination inches closer and the “final” 2016 acreage numbers are released on Thursday, along with the 3Q16’s stocks of grain.

Latest Assessment of Nigerian Oil Supply Disruptions

The situation in Nigeria remains highly fluid. Reports of a 30-day ceasefire are conflicting, but at the very least suggest some kind of dialogue is taking place between the government and militants. Even if there is an agreement, disrupted volumes will not return immediately and the situation is likely to remain fragile. Fiscal problems will make it difficult for the Buhari administration to revive an amnesty program for Niger Delta militants, and it will be difficult for the government to go back on its anti-corruption campaign.

Ethanol-Blended Gasoline Manufacture Surges to Near Record

Inventories fell slightly the week ending June 17. Stocks in PADDs I and III increased.

Japanese Crude Runs Ease with Higher Crude and Product Stocks

Crude runs eased on the week as Hokkaido entered full turnaround. Crude imports rose and crude stocks built 2.7 MMBbls. Finished product stocks also rose by 0.7 MMBbls, with about half being kerosene. Gasoline demand was soft and stocks built slightly. Gasoil demand was stronger and stocks resumed drawing. Kerosene demand was seasonally low and the stock build rate remained about 50 MB/D. Refining margins have remained soft in June.

Supply Tempers Breadth of Rally Across Regions

The rebound in Henry Hub has buoyed all regional cash prices — but to considerably varying degrees. Indeed, the regional dispersion of CDDs accounts for some of the relative strength and weakness in prices/basis, but supply trends have also played a key role. The standout feature of this month’s regional price action is the need of further assistance from weather as the market awaits larger supply losses.

When Will LNG Balances Hit the Tipping Point?

The temporary loss of existing LNG production is masking the rise of new LNG production in much the same way that oil production disruptions around the world in 2014 delayed the bearish price effect of the rise of shale in the U.S. In late 2014, that tipping point on oil was reached when global disruptions crested even though U.S. shale production continued to rise. For LNG markets, the tipping point will occur late in the first quarter of 2017.

Energy Efficiency Puts Downward Pressure on U.S. Power Demand and Gas Growth

PIRA downgraded its latest long-term U.S. power demand forecast from a 0.83% compound annual growth rate (CAGR) between 2015 and 2035 to a 0.54% CAGR. A significant portion of this downgrade is due to anticipated load destruction from end-use electricity savings arising from recent developments in energy-efficient technologies, product efficiency standards, and state-level efficiency programs, as well as a lack of weather-adjusted load growth in essentially five years. These developments suggest additional headroom for savings beyond previously modeled energy efficiency potential, particularly in areas like lighting and space cooling in the commercial and residential sectors. PIRA expects this load destruction will be most acute for gas burn and new gas plant builds, which are also under increasing pressure from renewables.

Freight Rates Hold Steady as Cape Fleet Growth Picks Up

While the Brexit vote has added significant uncertainty regarding dry bulk demand growth in Europe and potentially elsewhere, there have been some fundamental developments in the sector of late, such as Winning International hauling 15 MMmt of Guinean bauxite to China this year using Capes loaded by floating transfer equipment. Continued growth in fleet supply will keep rates in check over the next several months, although PIRA has a tighter outlook going into 2017.

U.S. Ethanol Production Reaches All-Time High

The output of ethanol reached a record the week ending June 10. This essentially ended the rally in prices that began in February.

Old Crop Soybean Supplies in Focus

Validated moisture events will have a negative effect on new crop prices, so PIRA is bullish old crop/bearish new crop at the moment, after being bearish beans for a few weeks. As July heads into first notice day next week, focus will shift to the August/November spread as an indication of dwindling old crop supplies.

Global Equities Decline on Brexit Outcome

Global equities were broadly lower on the week. The U.S. market was down 1.6%, Friday-to-Friday. The growth indicator underperformed, and banking was the weakest single sector, down 3.4%. Consumer staples and utilities faired the best, while energy also outperformed, down only 0.5%. Internationally, many, but not all, the tracking indices were lower. Europe was the weakest. Latin America managed to post a gain, while China and the BRICs also outperformed and only posted modest changes for the week.

Energy Implications of the Brexit Vote

The IMF has recently developed two scenarios to gauge the economic impact of Brexit. PIRA estimates that in the "Limited" scenario, world oil demand in 2017 would be about 100 MB/D lower than in the IMF's Base Case, with the largest impact in Western Europe. In the "Adverse" scenario, world oil demand in 2017 would be 200 MB/D lower than the IMF Base Case. There would also be noticeable impacts on gas and coal demand. These impacts on energy demand might slow, but not reverse, the oil price recovery PIRA projects.

Can Norway Step in to Take Rough's Role this Winter? Will It?

Centrica’s decision to shut the Rough storage facility until August 3rd caused a huge spike in winter ‘16 prices and a weakening in the spot/front month pricing. The opportunity cost of injection over this period is around 1 BCM and will need to be made up whether from Rough itself or somewhere else. PIRA suggested that with a Rough maintenance coming up in September, a shortening or cancellation of this maintenance may be possible and would help relieve some of this pressure. Looking to the power side for some demand relief this winter seems to be a lost cause. While power demand tends to be very sensitive to price, recent strong developments in gas prices have been outperformed by spark spreads for this winter. Another way some or potentially all of this lost storage volume can be made up is by higher Norwegian volumes, which are very tied to NBP-TTF spreads.

Shale Rig Activity Has Likely Bottomed, But Production Declines To Continue

Production declines accelerated in the first quarter but output still came in above guidance. Shale operators raised 2016 production guidance to a 6.1% year-on-year decline (up 1.7% points from guidance given during 4Q15 calls). And with the increase in prices from February lows, operators began to detail plans to increase activity. Many operators indicated that at $45-50/Bbl rigs will be added in the Permian, while the Bakken and Eagle Ford will require $50-60/Bbl. In line with this guidance, the horizontal oil rig count appears to have bottomed in mid-May; rigs are up 7% in the past five weeks. Despite this, PIRA still expects production to decline for the remainder of the year as it will take time for the slowdown in activity to show up in production. 1Q16 costs continued to decline (down 25-30% since the downturn), but the pace slowed markedly. Much of the savings were attributed to service price concessions, and are likely to reflate as activity ramps up.

Supply Glitches Keep Legs Under Spot Prices for Now

LNG markets remain balanced at relatively high spot prices of $5/mmBtu thanks to supply disruptions from existing producers and delays emerging from new supply. The quality of buyer is dropping when it comes to bearable price, which is a sure sign that the overhang may be delayed, but it is inevitable.

Brexit Rattles Markets

The UK’s vote to leave the EU rattled financial markets on June 24th, setting back gains that had been made Monday through Thursday. While many weekly averages were higher, Friday-to-Friday data showed a steep drop in most key indicators.

Freight Market Outlook

Tanker markets are starting to suffer from the influx of new vessels with few offsetting deletions and the anticipated start of the slow drawdown of excess inventories which have built up over the past two years. The drip feeding of new tonnage and the withdrawal of excess stock from the supply chain will result in a pattern of lower peaks and deeper troughs in tanker rates as the year progresses.

Amid the Chaos, LPG Markets Strengthen

LPG traded on fundamental supply and demand factors last week, leading to strong gains across the complex. July Mt Belvieu propane futures added a solid 3.7% to bring its value to 47% of WTI. Butane outperformed, adding 5.1% to settle near 69¢ /gal Friday. Ethane futures ripped 7% while natural gasoline prices managed to hold near unchanged despite weaker broader markets.

Ukraine Confirms Default Industrial Gas Prices

Naftogaz Ukraine has published quotations for natural gas for industrial consumers and other economic entities, which will operate from July 1, 2016 as stated in the press release of the company. “The proposed price of natural gas from the resource companies can vary depending on the volume of purchases, payment terms and the status of previous calculations of “Naftogaz”. Levels of the final price for industrial consumers and other economic entities, depending on the specified conditions, compared to June prices remained unchanged (taking into account tariffs for transportation via trunk and distribution pipelines and VAT).”

The information above is part of PIRA Energy Group's weekly Energy Market Recap - which alerts readers to PIRA’s current analysis of energy markets around the world as well as the key economic and political factors driving those markets.

The decision by 52% of the voters in the EU referendum last week to vote to leave the EU has had far-reaching impact across the globe. The oil and gas sector, bruised from nearly two years of low oil prices, is bracing itself for the fall out.

The immediate impact of the referendum outcome was a plunge in the value of the pound to a thirty-year low of $1.34, significant falls in all of the world’s stock exchanges and the price of Brent tumbling 5% to $48/bbl.

The greatest risk to the energy industry is surely a global economic slowdown, which would suppress oil prices for longer and delay investment in exploration and production. In the short-term, however, UK-listed oil companies such as Shell, BP and Tullow have fared (comparatively) well since the decision was announced – with a large proportion of dollar-denominated revenue from abroad the devaluation of Sterling actually benefits these companies and they will see in a boost in reported revenues as a result. The end-user at the pump in the UK will, of course, see the opposite effect for the same reason – we import a significant proportion of the oil we consume and prices will rise as a result of the exchange rate movement.

For now, we are left with a perception of risk generated by uncertainty over what ‘Brexit’ actually means. The negotiations on our exit are yet to happen and the timetable and extent of the UK withdrawal are yet to be seen. The Prime Minister has made it clear he will not trigger Article 50 of the Lisbon convention himself and will leave it for the next leader. Despite the outcome of the vote it remains entirely possible that the government (largely pro-Europe) will deliver a ‘Brexit-lite’ outcome or even no Brexit at all.

Steve Robertson, Research Director, Douglas-Westwood

U.S. Commercial Stocks Slightly Decline

Overall commercial inventories declined this past week with the entire decrease due to a decline in crude stocks. The crude stock decline was much smaller than expected, about equally caused by both higher-than-forecast crude imports and the balancing item. The latter could have been related to EIA re-benchmarking. The year-on-year stock surplus did narrow by 3.4 million barrels to 113.5 million barrels (or 9.1%).

Exports Expected to top 4.5 BCF/D in 2017

Since 2014, Mexican energy policy reforms, coupled with low oil prices, have accelerated the nation’s dependency on U.S. gas exports. Indeed, net shipments to Mexico remain upward trending, with June flows projected to average ~3.7 BCF/D, an increase of ~0.7 BCF/D versus the prior year. Equally striking is our expectation for 2017, which should see exports average ~4.5 BCF/D and yield a year-on-year gain of ~0.9 BCF/D. Notably, the upgrading and development of new critical infrastructure, including gas pipelines, electric generation and transmission capacity, are anticipated to significantly shape cross-border flows in 2017, providing a rich environment for gas demand.

Italy: Nord Prices Trade a Huge Discount versus PUN

Italian day-ahead prices have been generally firmer during June, but day ahead prices in the Northern regions have been settling at a significant discount relative to the PUN, coming closer to the other Continental markets. While Italy has switched to a net exporting position to Slovenia, flows from the other Continental markets, most notably France, remain generally resilient.

Gas Prices Lead Coal Higher

U.S. coal pricing has seen a modest lift from the recent move in natural gas forwards. Coal market balances, however, will require a bit more time to readjust (i.e. trim elevated stock levels). PIRA still sees U.S. coal markets realigning over the course of the next seven to nine months even current forces remain on track.

EUAs Correlated with Fuels, EU ETS Reform Talks Continue

A continued closer relationship between EUAs and thermal fuels could limit downside price movements. However, we still expect EUA prices to decline over the next few months in line with summer natural gas prices, bearish fundamentals, and a lack of policy support as talks on post-2020 ETS reforms continue. A small gain should come starting in August, when auction volumes are lower than in other months. Longer term, a positive Brexit vote could have implications for the ETS.

Fed Projections Suggest Interest Rates Will Stay Lower for Longer

At this week’s policy meeting, the Fed stayed put, as widely expected. Its updated macro forecast also did not surprise, showing little changes from the previous version three months ago. Projections on the future policy rate from meeting participants, however, contained noteworthy developments — in short, their estimate of the neutral interest rate has gone through significant changes, suggesting that rates will likely stay lower for longer in the future. The British referendum about whether to remain in the European Union will take place June 23, with the result expected by the next morning. The outcome of the vote has the potential to create uncertainties on several different levels.

U.S. LPG Prices Outperform

Improving fundamentals, namely tightening propane inventories, helped U.S. LPG prices improve last week. Mt Belvieu propane easily outperformed broader energy markets by logging a 1.5% gain, bringing C3’s value to 45% of WTI. Gulf Coast butane prices also rose 1.2%. Meanwhile ethane prices plunged 10% to 22¢/gal, perhaps as markets digest the large 3+ million barrel improvement in inventories reported for end March.

U.S. Prices and Margins Soar

The week ending June 10, U.S. prices reached the highest level since December 2014. Manufacturing margins were the strongest in over a year.

All Eyes on Corn

2015/16 export sales/shipments in corn have now surpassed last year’s pace by 2%, a remarkable achievement considering the lag for most of the year. Ethanol production set a weekly high for the previous week while Funds turned seller’s midweek after an early week buying spree.

Japan Runs Rise, Inventories Draw

Crude runs rose a bit on the week due to a restarting of units down previously for unplanned maintenance. Crude imports declined sufficiently to draw crude stocks 1 MMBbls. Finished product stocks drew a similar amount. There were modest builds in gasoline and gasoil stocks, and a more moderate build in jet-kero. Naphtha and fuel oil stocks drew moderately and were more than offsetting. Refining margins had improved a bit, but have continued to soften as June unfolds.

Structural Tightness Raises the Floor for Gas Prices

Despite Thursday’s slightly higher-than-expected storage release of 69 BCF, the general momentum in structural tightness appears to be adequate to safeguard the ~15% rally in natural gas prices this month. To be sure, sequential domestic production losses and early cooling demand have raised the floor for the prompt futures contract as well as cash prices.

Financial Stress Builds

Most key indexes fell on a weekly average basis as stress grew due to concerns over the possibility of the United Kingdom leaving the European Union. The S&P 500, US High-Yield Corporate Bond, Russell 2000, and Emerging Market Bond indexes were all lower, while VIX rose substantially. The dollar was mostly stronger, while commodities were mixed. Short- and long-term bond yields in a host of major countries fell. The Cleveland Fed released their inflation expectations for the month, which showed decreases in all the major maturities.

Production Reaches a Record High the Week Ending June 10

Stocks rise for the first time in six weeks. Ethanol demand in blended gasoline remains strong.

Weather Volatility Increases

After a strong close Friday, which saw notable volume of 5K December ’16 corn contracts in the last five minutes and 3K more during the post-close, weekend weather forecasts literally had something for both bulls and bears. Consensus continues to point to hot temperatures, but precipitation forecasts were drier, wetter, and then drier again, and finally wetter, pushing markets lower Sunday evening.

Iraq Oil Monitor, 2Q16

The oil dispute between Baghdad and the KRG resurfaced in March, resulting in the suspension of 150 MB/D from NOC-controlled fields to the Kurdish pipeline. We believe a $5.4 billion IMF package will facilitate an agreement by 2017. Government requests for spending cuts are delaying development plans at large southern fields. Investment reductions and infrastructure constraints underpin our belief that capacity growth will be limited. We also see risks that additional government forces will be diverted north to combat ISIS, leaving more of a security vacuum in Basra.

Lagging LNG Flows Support Prices amid Dutch Output Weakness and Temporary Outsized Impact of Disrupted Norwegian Volumes

After 14 straight months of increases highlighting a new and more aggressive marketing strategy, Norway’s first year-on-year export decrease in June (down 27-mmcm/d) is largely being driven by unplanned outages (Kvitebjorn), not any notion of a change in the new way the gas is being marketed. All of the year-on-year cuts are coming from flows to the Continent instead of to the U.K., where a price premium makes it the last place a marketer wants to cut. Flows to Germany tested a five-year low in early June, but they appear to be on the rebound in the past week. Put in proper perspective, the loss of Kvitebjorn flows are not going to change the trajectory of the market on a fundamentals basis, but do justify short-term price support amid other lingering issues affecting supply.

Global Equities Decline on Heightened Brexit Fears

Global equities were broadly lower on the week. The U.S. market was down 1.7%, with banking and technology posting the sharpest losses. Energy was down about 1%, but outperformed. Internationally, all the tracking indices were lower, with World, ex-US, being the weakest. Europe also posted greater-than-average declines.

Venezuela: Risks Rising, But No Change to PIRA Reference Case

PIRA estimates delinquent payments to service companies have reduced Venezuelan crude production to 2-2.15 MMB/D in May and June, from 2.3 MMB/D in 1Q16. Our Reference Case assumes these issues will be gradually resolved by the end of the year. Recent reports on agreements with Schlumberger and China are marginally encouraging. Higher oil prices may also help. However, worsening economic conditions present more risk to our 2017 forecast, where we have output averaging 2.2 MMB/D. Venezuelan debts are even higher next year, which will leave the government facing increasingly difficult choices between debt payments, oil sector spending, funding for social programs, and imports of consumer products. This raises the risk of social and political unrest, which have the potential to disrupt oil operations. We are watching events closely, as more payments come due and protests worsen.

Domestic Gas Producers in Romania Could Be Challenged by Imports

Romanian Regulatory Authority for Energy (ANRE) president Niculae Havrilet said that the local gas industry might incur some losses due to price liberalization. According to the price liberalization calendar, natural gas prices should increase by 10% on July 1; the suppliers of households will have to make a pool at the lowest price, and with cheaper imports, they will incur losses because of costs of building up stocks. The gas pool for households includes quotas of the current domestic production, stored gas, and imports. As the ANRE sets these quotas to obtain the minimum end price, the president urged for the continuing of the liberalization process. “The end price of gas will definitely not increase by 10%,” he stated.

Nigeria Devaluation Will Lower Oil Production Costs

The recent announcement from the Nigerian Central Bank to devalue the naira could result in lower costs for operators in Nigeria. The Central Bank had previously pegged the naira at around 200 to the U.S. dollar. Several sources estimate the market value of the naira to be around 300 to the U.S. dollar. Assuming a 300 exchange rate and an increase in inflation as a result of the devaluation (from the current rate of 14% to around 22%), costs to produce existing oil supplies and to develop new ones (denominated in U.S. dollars) could be reduced by around 14%. However, the reduction in costs will be a function of how the exchange rate and inflation develop over time.

Despite Weaker Oil Market, Coal Prices Continue to Gain

Coal pricing surged last week, continuing the market rally that has been occurring essentially since February. API#2 (Northwest Europe) and API#4 (South Africa) increased by the largest extent, while gains for FOB Newcastle (Australia) prices were less pronounced. While a recovering oil market has been the primary factor in the surge in pricing for most for the year-to-date, the oil market lost ground last week, with the coal market gaining ground for other reasons. It will be difficult for the coal market to hold on to these gains, unless the oil market continues its upward trajectory, as Atlantic Basin coal fundamentals are on shaky ground.

Asian Refiners Shift Yields to Cope with Strong Gasoline Demand

Asia-Pacific’s oil demand remained robust in 1Q16, with an increase of 1.12 MMB/D year-on-year. China and India contributed almost the entire growth, driven by gasoline and LPG. Asian refiners responded to higher gasoline demand by shifting their yields from gasoil/diesel to gasoline. While there will likely be a temporary shift back to gasoil now because of its recent relative price strength, refiners will soon return to emphasizing gasoline because of relatively strong demand.

Stabilizing Hydro, Destabilizing Finances Threaten Brazil LNG outlook

Long a staple player among counter-seasonal buyers, Brazil’s role as a key 2Q/3Q buyer of LNG is coming under question, as it recovers from a severe years-long drought. YTD LNG import levels through May are down by 40%, or the equivalent of some 20 cargos (11-mmcm/d through May), as the hydro reservoir levels in Brazil show a significant improvement over last year.

Asian Demand Update: Acceleration in Growth Continues

PIRA's latest update of Asian product demand again shows improved growth due to further gains in Chinese demand. This acceleration in Chinese growth was pointed out in our "Spotlight" piece issued June 8th titled "Soaring China Crude Imports Driving Strong Apparent Demand." The latest year-on-year Asian demand growth is now 1.35 MMB/D, with China apparent demand up 1.1 MMB/D. This marks the fourth monthly improvement in Asian demand growth. The low point was in our February assessment, when growth had only been about 0.3 MMB/D. That steady improvement suggests that low prices earlier in the year, have in fact stimulated growth, while economic performance in Asia appears to be improving.

The information above is part of PIRA Energy Group's weekly Energy Market Recap - which alerts readers to PIRA’s current analysis of energy markets around the world as well as the key economic and political factors driving those markets