U.S. Stock Deficit Widens Again

Hurricane Harvey has certainly disrupted the lives of millions and led to the shutdown of refiners, steam crackers and other industrial operations. The deluge has created significant problems for refiners from the Houston area east, with Corpus Christi operations being largely spared the worst impact of the tropical storm. For the latest reporting week, which does not show the effects of Harvey, refinery runs increased to a new high of 17.7 MMB/D, driven by strong margins as well as firm demand and exports. Hurricane Harvey has led to a steep reversal in operations with runs expected to fall back to 14.7 MMB/D for the next week. Overall commercial stocks fell by 1.1 million barrels for the latest week, widening the deficit to last year to 70.7 million barrels. Major light products were little changed, with total product stocks up by 4.3 million barrels. This was offset by a 5.4 million barrel drop in crude stocks.

U.S. Manufacturing Margins Improved in August

D6 RIN values were lower. Brazil imposed a 20% tariff on U.S. ethanol imports above 600 million liters per year. Mills in Brazil’s South-Center region produced a higher percentage of ethanol in August. European ethanol prices continued to decline.

Early-Bird Outlook for 2018

A clear path for seasonal price recovery looms considering the positively skewed Y/Y heating demand risks — on top of ongoing structural expansion being driven by the “Big Three” that has been buoying the call on supply for more than a year now. The return to normal weather during the fourth quarter would dramatically tighten supply/demand balances, suggesting that prices will “lift off” well in advance of the official start to the 2017-18 heating season. While a more normal turnover in inventories during the 2017-18 heating season will largely be viewed as constructive for prices, the same cannot be said of the 2018 injection season. Indeed, when coupled with what appears to be an impending new record level of supply growth take root in 2017, the total supply picture is likely to be viewed as too top-heavy.

September RGGI Carbon Auction to Rebound vs. June

The August WCI current and future vintage auctions returned to full subscription, clearing at historic high prices. Auction pricing failed to reach highs seen in July, but is above the expected 2018 reserve price. Coverage ratios were strong and the number of registered bidders increased significantly. Compliance entities secured most of the winnings. Secondary market reaction to the results has been decidedly bullish. With August the second consecutive auction to clear above the reserve price, unsold allowances can start to be re-offered beginning with the November auction. This will increase supply and allow for the surplus/bank to build.

Nuclear Winter

The outlook remains generally constructive for Continental power prices, given the poor status of water reserves in major markets, while more surprises could still surface in the Creusot-Forge saga. The opaque ASN consultation document of Aug. 16 is clouding the French nuclear outlook, but our take is that the review of these irregularities was already underway and so far neither ASN nor EDF have made public specific safety concerns that would prevent plants from operating normally. At this point, with French prices already moving significantly higher, the upside for the winter contracts seems quite limited under normal weather. Our model shows the price impact of extended delays of plants restarts could be more significant in 4Q – in a range of € 6-7/MWh, but the market has already factored in more than half of it. Additionally, 1Q 2018 seems to be already trading at levels compatible with lower nuclear availability. Oddly, 2Q and 3Q 2018 do not appear to be factoring any major nuclear losses.

Disrupted Supplies and Undisrupted Injections Support Pricing

Summer is ending, and Sept. HDDs across Europe come quickly in percentage terms (316% M/M) followed by October in absolute terms (+4,900 HDDs M/M). This will sneak up quickly and will initially be balanced with lower injections. While gas demand has been hurt by a normalization of nuclear supplies, hydro continues to be supportive. This support is particularly true in the next several months, being the traditional seasonal low for hydro production – generally down 17% M/M in September and a further 10% M/M in October. Storage injections outturned 30% higher than forecasted in August at 13-BCM. German injections have been the second highest injection month ever. In addition, Austria, Denmark, Hungary, Poland, and Slovakia each had their top or second highest injection month. Up to this point in injection season, over 26.5 BCM of gas has been injected into storage in Northwest Europe, with another 5.1 BCM forecasted by PIRA on the way - contracting forward spreads. Additionally, as gas continues to price itself against coal, it becomes increasingly sensitive to developments in Asian coal restocking in the coming months that may continue to be quite supportive.

Temperatures and Prices Reach Triple Digits

Heat waves bookended August weather with temperatures reaching triple digits in California and Northwest load centers. CA ISO on-peak block prices breached the $100 mark on several days with DA LMPs for early evening hours in the CA ISO markets clearing in the $300-500 range. WECC US loads rose by 3 aGW from the prior year while hydro gains dwindled to just over 1 aGW. Solar output rose by nearly 1 aGW but nuclear generation declined due to an outage at the Columbia Station. As a result, coal-fired output was up and gas nearly matched its prior year level on average, far exceeding it on peak days. Bullish weather patterns are forecast to continue into September. The extended outlook for 2019 is for market implied heat rates to remain stable as neither gas prices nor resource mix are expected to change significantly.

U.S. Coal Stockpiles Continue Downward Trajectory

June 2017 electric power sector stockpiles came in at 160.5 MMst according to the EIA’s August 24 data release, down 4.4 MMst M/M. That was less than the five-year average M/M stock draw of 6.3 MMst for June, but put stockpiles 6% below the five-year average for the month. PIRA has estimated a July stock draw of 12 MMst, which exceeds the five-year average but falls short of last year’s nearly 14 MMst decline (a bullish draw that stoked 2016’s rally in coal prices). The M/M decline in stockpiles in July is typically the largest of the year and has averaged ~11 MMst over the most recent five-year period.

Japan Coming off the Holiday, Gasoline Demand Still Soft, Gasoil Rebounds

This week’s data takes us further from the mid-August holiday period. Total commercial stocks drew 2.35 million barrels, with both lower crude and product stocks, and a rebound in major product demand, in part due to much higher gasoil demand. Crude runs dropped 77 MB/D from peak levels. Gasoline demand fell back a modest 8 MB/D, but is still seen as soft. Gasoil demand rebounded sharply from its holiday induced low. Refining margins have continued to perform well and remain supportive of the high level of runs. Higher levels of maintenance and a tempering in runs should support margins, while demand softens a bit.

Familiar Sight in U.S. – Solid GDP / Job Growth, and Wage Riddle

The U.S. economy has appeared to be in good shape for a while – and after this week’s data releases, the picture looks even better. GDP growth for the second quarter was revised up, and growth for the third quarter is shaping up to be solid. As for the August labor market report, private-sector job growth was healthy, the unemployment rate stayed low, and wage pressure was absent. Going forward, Hurricane Harvey will create noise for a short period for some data. Outside the U.S., Chinese business confidence surprised positively in August. Canada and Brazil reported positive GDP data, but India disappointed.

Hurricane Harvey Shutters 50% of U.S. Steam Cracker Capacity

Hurricane Harvey’s historic rainfall caused the shutdown of 70% of Texas Gulf Coast steam cracker plant capacity, which represent 50% of total U.S. steam cracker capacity. The corresponding decrease in ethane demand was 550 MB/D. The duration of cracker outages will depend on any damage sustained at the plants and other infrastructure such as pipelines and terminals returning to service. Mont Belvieu ethane prices were down due to slack demand, while each of the other NGL purity products prices strengthened. Shipping terminal outages reduced Gulf Coast exports last week and also will reduce exports this week. However, global demand for U.S. LPG remains seasonally firm even in the face of challenging arbs.

Hurricane Harvey Offers Glimpse into Global Gas Loss Potential

In the wake of Hurricane Harvey, which swept through one of the world’s main energy producing hubs, much of the focus has been on the oil front in terms of US refining capacity outages owing to the seasonal impact of potential gasoline shortages in the final weeks of US summer driving season. And on the US domestic gas front, the concerns are heightened by the fact that compared with previous storms, much more US domestic gas production is in the South Texas/ Houston area and subject, for now, to force majeure.

Cape Freight Rates Ride a Wave of Chinese Speculation

Capesize dry bulk freight rates surged over the past month due to a variety of factors. Another bout of commodity speculation, and shift if steelmaking process in China certainly were major factors in lifting rates. On the supply side the expansion of the fleet has at least temporarily halted, driving up prompt rates and FFAs PIRA expects Cape rates to stay high over the next two months and to then fall back.

Global Equities Post a Positive Week

Global equity markets generally posted another positive week. In the U.S., among the tracking indices, housing, technology and materials did the best and outperformed. Energy posted a gain of 0.9%, but underperformed. The international tracking indices also generally gained on the week, but underperformed the U.S. Emerging Asia did the best, but underperformed the U.S. market.

Production and Supply Decreases

U.S. ethanol production declined the week ending August 25 (before the impact of Hurricane Harvey), falling 10 MB/D to 1,042 MB/D. The largest drop occurred in PADD III as some biofuel manufacturers near the coast prepared for the arrival of hurricane. Total inventories fell by 206 thousand barrels to 21.3 million barrels. Ethanol-blended gasoline production jumped to a nine-week high 9,447 MB/D from 9,392 MB/D during the preceding week.

Coal Pricing Remains Elevated, Downside Risks Gather

Coal pricing was mixed in August, with surging dry bulk freight rates pushing CIF ARA prices substantially higher, while the end of the Asian heat wave saw Pacific Basin price strength ease. While upside price risks remain, and should be respected for the prompt market, rising supply and easing demand fundamentals should see prices over 4Q17 into 2018 fall below market forwards.

U.S. Shale Oil Breakevens Down Despite Higher Costs

PIRA expects costs to increase by an average 11% between 2016 and 2017 driven primarily by tightness in fracking equipment (pressure pumping and proppants). However, continued improvement in well productivity appears to more than offset cost inflation. PIRA forecasts U.S. shale oil breakevens to be slightly lower in 2017 versus 2016. PIRA also forecasts U.S. shale oil production to continue to rise despite the recent flattening in oil rig growth.

Credit Conditions Remain Constructive & Stresses Low

It was generally another constructive week for financial stress with the S&P 500 gaining week-on-week, along with lower volatility (VIX), positive performance on credit pricing and commodities. The St Louis financial stress indicator posted a fourth straight weekly rise, but stress indicators remain very low.

U.S. Production in June Falls on Alaska and Gulf of Mexico Maintenance; Growth Slows in Texas

U.S. crude and condensate actuals for June 2017 came in at 9,112 MMB/D, down 72 MB/D month-on-month, up 164 MB/D year-on-year, and 73 MB/D below PIRA’s forecast. The miss relative to PIRA’s Reference Case was primarily due to Texas and the Gulf of Mexico.

Refined Product Implications/Outlook After Hurricane Harvey

Hurricane Harvey has finally moved on, but it has left record flooding in its wake. The impact has come as a wave starting in South Texas near Corpus Christi where it made landfall. Then, it moved on to horrific flooding near Houston and finally in the Beaumont/Port Arthur area in eastern Texas. PIRA has tracked the refinery outages and based on what information is currently available made an estimate for the likely recovery refinery-by-refinery. This is of course a preliminary estimate based on what we know now and it assumes that no major long-term damage will be found.

Tighter to Asia, but Reflective of Market

Saudi Arabia's formula prices for October were just released. Pricing offsets to Asia, vs. the Oman-Dubai benchmark, were raised for the second straight month, but generally reflective of less contango in the Dubai pricing structure. Pricing into the U.S. was raised on the lighter and heaviest grades, but left unchanged on Arab medium, which is key competing grade vs. the domestic barrel (Mars). There appears no consideration in setting prices with regards to hurricane Harvey. European pricing on Arab light was reduced $0.10/Bbl, but a widening in the Urals discount vs. Dated Brent would have suggested a slightly larger reduction.

High Utilization Rates Required in Swing Refining Capacity

Refinery utilization rates since 2015 are holding near “Golden Age” levels in swing refinery capacity. Utilization rates outside of these areas are lower, depressing global averages, but that has limited impact on market pricing since much of it cannot be brought to bear. This is a key factor supporting refinery margins.

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.