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PIRA Energy Market Recap, May 14, 2018

Impact of Changing Dynamics in the Mideast on Asian Oil Markets

PIRA copyThe huge crude stock draws expected for June through September will likely force steep backwardation for Brent. Global oil demand is expected to grow by ~2.2 MMB/D in 2018, before easing to 1.8 MMB/D in 2019, and Asia will account on average for ~50% of global growth over the next two years. Global refiners will annually add ~1.87 MMB/D of CDU capacity over 2018-19, and East of Suez will account for ~80% of those additions. Refinery build-up amid slower demand growth in the Mideast is adding to regional product supply. The Mideast is expected to become a minor net exporter of gasoline in 2019, and regional net diesel exports are expected to rise to ~0.52 MMB/D next year, up from 0.37 MMB/D in 2017. S&P Global Platts Analytics expects Dated Brent prices to average ~$72/Bbl in 2018, up from $54/Bbl in 2017. Overall, Asian refining fundamentals should continue to be moderately supportive this year, with Singapore cracking margins averaging ~$6.70/Bbl for 2018.

A Quick Spring from Winter to Summer

Spot on-peak energy prices in ISONE, NYISO and PJM locations were higher year-over-year during April with higher loads despite weaker gas prices in most locations. Raw loads increased by ~1.5% year-over-year in East and ERCOT. Estimated weather-adjusted loads also showed a 1.8% gain in April. Gas prices in all markets except New England were down year-over-year. Assuming normal weather and Henry Hub gas prices in the $2.90/MMBtu range for the balance of the injection season, storage is likely to enter start the 2018-19 heating season at low levels resulting in upside price risks and downward pressure on implied heat rates.

WCI Carbon Market Extends Losses Ahead of Auction

With the May auction approaching, WCI carbon prices declined once again in April. Trading volumes were flat month-on-month, and put options traded with strike prices below the 2018 auction floor. Pricing for the June delivery contract is a bit below to the comparable secondary market price at the time of the February auction – indicating a potentially lower clearing price. The ON election and continued linkage concerns weigh on the market. 2018 should see an annual allowance surplus. However, the auction floor price escalates next year, and the large CA and QC compliance surrender later this year could result in increased allowance and particularly offsets demand. Looking longer term, CARB aims to finalize Cap and Trade Amendments this year implementing a price ceiling and offsets limits.

Higher Oil Prices Not an Inflation Concern Despite Also Strong Industrial Production

The underlying pace of U.S. consumer inflation has accelerated at a measured pace in recent periods, according to the CPI data for April. Looking forward, the energy price sub-index appears certain to show a large pick-up. Higher energy prices, however, are not likely to have large spillover effects on core inflation. In China, energy prices have been responsible for pushing up consumer inflation. But oil prices will probably not cause overall consumer inflation to run significantly faster in the coming periods.

platts logo copyPropane Prices Rebound on Strength of Crude

Non-LST propane gained 0.8% for the week ending May 11. Propane prices climbed along with crude and maintained their relative value at 52% of the crude price. U.S. propane inventories built by 2.3 million barrels during the week ended May 4, according to EIA data. The build represents the first injection of the year of at least 1 million barrels and brings total US inventories to 38.7 million barrels, 7% below year-ago levels and 25% below five-year average levels. Exports were reported at 707,000 b/d, compared with Platts Analytics’ estimate of 793,000 b/d based on data from cFlow. Exports are expected to be 930,000 b/d for the week ending May 11. The propane price structure continues to support exports over storage. Steam cracker feedstock margins remain weak. Mariner East 1 returned to service late last week, reassuring the market that ethane supplies at Marcus Hook would not be constrained long-term.

U.S. Ethanol Prices Advance the Week Ending May 4

U.S. ethanol prices reached the highest level in 10 days. The blending of ethanol breached the 10% blend wall for the second straight week. RIN prices were slightly lower. The 2018/2019 sugar cane harvest in the South Central region of Brazil ramped up. European ethanol prices climbed.

Starting Over

Another May WASDE in the books and we’re off and running with the 2018/2019 Marketing Year projections. A few takeaways from the USDA’s first “official” look at the upcoming year include the continued aggressiveness of the World Agricultural Outlook Board’s (WAOB) soybean section that it has employed over the past 3 years on early demand estimates, very little to no confidence in these corn and soybean preliminary forecasts shown by the World Board when viewed through their so-called Farm Gate (cash) price forecasts, and a bit of Chinese trolling as it pertains to their soybean imports. All in all, a fairly mundane market response to a report that should have been more bullish at first glance, although the market knows a lot can change in just a few months.

Claims on Venezuelan Oil Assets Just Beginning

Reports last weekend cited attempts by ConocoPhillips to seize PDVSA assets in the Caribbean, after an international arbitration court recently awarded over $2 billion in damages from project nationalizations in 2007. 4 MMBbl of crude have reportedly been retained at the Statia terminal on St Eustatius, leading PDVSA to recall its tankers in the region to prevent attempted seizures. This could start a pattern of increasingly frequent attempts to claim PDVSA assets, especially given ~$7 billion in combined government and PDVSA debt obligations due between May and December. $11 billion more is due in 2019. Under any scenario, this looks likely to disrupt Venezuelan trade patterns, redirecting oil shipments to more distant and lower-valued markets. Compounding Venezuela’s problems, the U.S. looks likely to implement oil-sector sanctions around or after the May 20 presidential election. The heaviest stick would ban U.S. imports of Venezuelan crude, but more modest measures to ban U.S. exports of diluent to Venezuela, or restrictions on insurance for oil shipments, are possible as well. Regardless, pressure on PDVSA will rise, exacerbating production declines. We currently forecast crude output to decline from 1.68 MMB/D in 1Q18 to 1.45 MMB/D by 4Q18, and to 1.35 MMB/D by 2H19. But risks are clearly greater to the downside.

U.S. Gas Weekly Report

Following last Thursday’s lower than expected 89 Bcf injection, the NYMEX June contract broke above key resistance at $2.75 to $2.76/MMBtu, on its way to test above $2.80/MMBtu. As noted two weeks ago, the NYMEX nearby continues to remain range bound between $2.60/MMBtu and $2.85/MMBtu. As of Thursday, while the NYMEX June contract is entering into the upper-end of the range, i.e. $2.80/MMBtu, technical indicators do not suggest a market that is overbought. For example, the 14-day relative strength index is oscillating in the mid 50’s. Likewise, the moving average convergence divergence (MACD) indicator is relatively neutral.

Japan Refining Margins not Golden, Despite Golden Week Holiday

Following the Golden Week hiatus on new data, two weeks were released. Runs fell in the first week and then recovered slightly, but remain lower than last seen on April 21st. Weak margins are believed to encouraging discretionary run cuts. Seasonal turnarounds can’t happen soon enough. Crude imports fell sharply the first week and then recovered for a net crude stock build of 1.2 MMBbls from April 21st levels. Product stocks drew the first week and then built for a net build of 0.6 MMBbls. Refining margins remain weak, while retail margins on gasoline remain above average and gasoil/diesel margins are below average.

A Tighter Regional Balance Implies a Narrower NBP-TTF this Summer

European prices remain high heading into summer, with spreads holding onto their winter patterns for much longer than in previous years. The NBP-TTF DA spread finally moved into negative territory and NBP June -18, which was strangely at a premium to July-18 in late April, is now back to a discount, with NBP June-July 18 trading at -0.6ppth at the end of last week. Forward spreads indicate a shift and raise questions about the relationship between NBP and the Continent. The key flow the market will be questioning is how much the UK will export this summer. The previous few years has seen the UK (NBP) with steeper discounts to the Continent in June and Q3. At first glance it’s hard to see what’s different this year.

Japan: Weakness this Spring Highlights Underlying Demand Concerns Going Forward

Platts Analytics is more confident than ever in its conclusion that Japan does not need destination clauses relaxed for commercial purposes, but because it is well over-contracted, in particular in light of coal-gas switching economics, nuclear restarts, and overall demand losses.

Strong Hydro Output in the Alpine Region Limits German Exports, Increasing Price Volatility and the Risk of Negative Prices

The fuel pricing complex continues to push German power prices higher, with month ahead and 3Q baseload contracts trading at multi year highs. While we have been generally bullish for the German forward curve, day ahead summer prices are more likely to be volatile this year. As German demand touches its seasonal low point, thermal demand appears to be moving more often to the point when inflexible generation is at the margin, with renewable dispatching and shifting flows toward the Southern markets contributing to this outcome.

Higher Oil and Gas Prices Continue to Push Coal Pricing Higher

Coal pricing moved higher last week, with stronger oil and gas prices providing much of the upside impetus, as there have been a decided lack of bullish developments on coal supply/demand fundamentals. 3Q18 FOB Richards Bay prices are now slightly above $100/mt while 3Q18 FOB Newcastle prices are trading just $0.25/mt shy of triple digits. CIF ARA continues to lag behind, although prices are now slightly above $90/mt. With crude oil prices continuing to rise, aided by U.S. President Trump’s decision to withdraw from the Iranian nuclear deal, and global gas prices (outside the U.S.) also moving notably higher, it should not be surprising that coal prices were pulled along for the ride. However, this sympathetic reaction to a stronger oil market should only be a temporary phenomenon for coal, particularly as fundamentals look to be less supportive, led by declines in Chinese import demand.

EUA Prices Move Up on Higher Gas Prices, Limited May Auction Volumes

While EU Carbon Allowance (EUA) prices should move somewhat lower on higher auction supply (which has previously been low due to a number of public holidays in May), continued strength in TTF gas prices could support EUA prices this summer. At the same time, given the massive EUA price increases already seen in 2018, we continue to flag the possibility of a more substantive downward price correction in the coming months – especially if non-emitting power generation returns in greater force. As in prior months, prices may continue to respond to the upcoming implementation of the Market Stability Reserve in 2019, but any additional EUA price gains this year could mute gains when the MSR is actually operating.

U.S. Commercial Stocks Draw

Overall commercial inventories decreased 1.6 million barrels two weeks ago with substantial declines in the two major light products while crude stocks also significantly declined because of much lower imports. Distillate inventories are especially low driven in good part by strong demand bolstered by a robust economy, growing farm demand and much higher rig counts. This week’s EIA data will show another substantial decline in distillate inventories (2.0 million barrels) while gasoline stocks also decline by 2.2 milllion barrels. Crude inventories build this week by 1.3 million barrels as imports rebound and runs stay relatively low. Cushing crude stocks are forecast to show another build, although at 0.6 million barrels it is less than half the increase two weeks ago.

Credit Conditions Remain Generally Positive

Credit conditions were generally positive on the week, despite continuing issues in some key emerging markets. The S&P 500 gained about 2.4% on the week, with a sharp move lower in VIX volatility. Oil (WTI) hit a new cyclical high of over $71/Bbl, and its volatility also eased. High yield debt was modestly higher, while other debt metrics were stable. The dollar was little changed but posted noted strength against some EM currencies. Commodities were modestly higher, but energy was the stellar performer, up 2.7%. The St. Louis financial stress indicator settled lower on the week, with overall stress levels remaining low.

U.S. ethanol output rose the week ending March 4

U.S. ethanol production continued to rise last week, reaching 1,040 MB/D as more plants came back on line following spring maintenance. Ethanol stocks declined for the first time in three weeks, dropping by 178 thousand barrels to 22.0 million barrels. Inventories built on the East Coast but were drawn everywhere else. Ethanol-blended gasoline output was nearly unchanged, falling by a mere 2 MB/D to 9,144 MB/D.

Iran Sanctions Likely to Reduce Crude Exports by 200 MB/D by 4Q18

On May 8, President Trump announced that the U.S. will reinstate nuclear sanctions on Iran, including a requirement for third countries to “significantly reduce” their volume of crude oil purchases every 180 days. Guidelines from the Treasury Department state that a wind-down period will be in effect through November 4, but that countries seeking waivers for the subsequent 180 days are “advised” to start reducing imports during this period. The guidance does not specify a required volume reduction, either in the wind-down period or once the sanctions are fully implemented, but the Obama Administration used a 20% figure. According to the latest Platts cFlow data, crude exports averaged 1.9 MMB/D during 4Q17 and 1Q18 (excluding condensate), 20% of which would equal a cut of 380 MB/D over 180 days. However, compliance will be more difficult to enforce this time around, and the Trump Administration could provide some leniency through November 4 as buyers wind down contracts. Therefore, we think a reduction of 200 MB/D by the fourth quarter is a reasonable assumption.

MA CO2 Cap and Trade Awaits Court Decision as Emissions Climb in 2018

Oral Argument in the lawsuit challenging the MA in-state power sector CO2 Cap and Trade took place in the Massachusetts Supreme Judicial Court on May 8th. A decision is expected within 130 days. Entities challenging the regulations focused on a lack of authority to set mass-based limits under the Global Warming Solutions Act (GWSA) and the potential for the Program to result in emissions leakage. The lawsuit has implications for the MA program, and the RGGI region as well, as a binding MA in-state cap shifts dispatch to out-of-state units. Early trading for MA allowances has seen fairly robust allowance prices, adding to generation costs. Emissions data from 1Q 2018 show a large year-over-year increase for MA covered units, challenging the in-state cap.

Pressure mounts on Venezuela’s oil sector after court decision

News of the possibility of ConocoPhillips seizing PDVSA’s assets in the Caribbean have brought additional pressure on Venezuela’s oil sector. At this point, it is unclear what actions ConocoPhillips will be able to effectively enforce to seize either facilities and/or crude or refined products towards the $2 billion compensation awarded by the International Chamber of Commerce (ICC). The ICC decision stems from the 2007 expropriation of ConocoPhillips Petrozuata and Hamaca extra heavy oil operations in Venezuela. As this situation develops, PDVSA already made logistics adjustments to its trade programs to guard itself from possible actions by ConocoPhillips. According to S&P Global Platts vessel tracking system, cFlow, over the last few days, PDVSA began diverting tankers headed towards or already in the vicinity of the logistics

Global Equities Post a Solid Week

Global equities rebounded 1.8% on the week, with the U.S. outperforming and rising about 2.5%. Among the domestic tracking indices, energy was the stellar performer by gaining 3.9%, while industrials and technology both added about 3.3%. Internationally, China gained 3.6% and outperformed, with emerging markets and emerging Asia also moving higher by about 2%.

RIN prices on the decline following the latest White House RFS Meeting

Details trickled out about the May 8 meeting at the White House to review biofuels policy. Proposals to allow E15 and to allow RINs to be retained for ethanol exports enabling refiners to use them to comply with their Renewable Fuel Standard RVOs.

Increasing NGLs supply creates its own demand

NGL demand is expected to account for almost two-thirds of total U.S. oil demand over the next two years. Like most oil product demand, NGL demand is derived from end-use demand for some final product. According to the Commerce Department’s input-output tables, non-durable goods make up an important part of all end-uses for chemical products, which are made from LPG, naphtha and ethane. Since 2016, non-durables have been growing at a much faster pace than services even though the opposite was true before 2016. It is unlikely that either non-durables or other end-use products have income and price elasticities large enough to explain non-durables recent faster growth. Non-durables’ relatively fast growth instead may be evidence that increased supplies of NGLs have “created” new demands for non-durables.

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. To read PIRA’s Market Recap first, subscribe to PIRA Perspectives here.

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