Oil On Monday Closed Nearer To Day's Highs Than Its Lows; ULSD Remains The Laggard

Oil markets completed their first full day of trading following the drone attacks on Saudi processing facilities, with the global crude Brent benchmark rising more than 14% at the close and heading back up toward where prices were when trading began late Sunday U.S. time.

The one comforting fact for truckers is that ultra low sulfur diesel on the CME was the weakest performer. By the day's end, ultra low sulfur diesel on CME was up 10.97%, a gain of 20.6 cts/gallon, to $2.0838/gallon. By contrast, Brent crude, the global benchmark, finished up $8.80/barrel, or 14.61%, to $69.02/barrel, and domestic U.S. benchmark WTI was up 12.8% to $62.90/b, a gain of $8.05/b. RBOB gasoline rose $19.93 cts/g, a 12.83% gain to a settlement of $1.7524/g. 

Those prices were all far closer to the highs of the day than  the lows, giving support to the idea that there was a lot more going on than just shortcovering. 

In the key U.S. Gulf Coast physical diesel market, S&P Global Platts reported some strengthening in the physical market relative to the CME ULSD price.  The spread between the CME ULSD price and the Gulf Coast pipeline ULSD price strengthened to minus 3.45 cts/gal from 3.8 cts on Friday. But other markets in the Midwest were actually weaker relative to the CME price. 

Here are some of the highlights of the day:

–Monday ended without any further statement from Saudi Arabia or its state oil company Aramco on restoration of some of its lost production, and that's worrying. There were boastful comments on Sunday–the day of the attack–that half the roughly 5.7 million b/d of lost production could be brought back within a day. Early on Monday, Bloomberg reported that the optimism among Saudi oil officials was premature and as the scope of the attack was analyzed, the officials were "growing less optimistic that there will be a rapid recovery in oil production after the attack on the giant Abqaiq processing plant," citing "a person with knowledge of the matter." The Bloomberg story quoted a report from Energy Aspects' Amrita Sen, one of the industry's leading observers, as saying that while 50% of the plant could come back quickly,  "full resumption could be weeks or even months away."

–The DOE/EIA weekly retail diesel price actually declined, to $2.971/gallon from $2.976/gallon. This means that if that number is the basis of a fuel surcharge, it actually took a step back Monday because it is a backward-looking number, drawn from a survey of retail prices last week. For a week then, the basis for fuel surcharges will be tied to a stable flat market that is far from what is going on at the pump.

–The cutbacks in Saudi output have had an impact already on some refining operations. For example, S&P Global Platts reported that Bahrain Petroleum, a refinery in the Middle East kingdom of Bahrain, has begun to cut back on its activities. (There were reports that the Saudis took the step of actually shutting the pipeline to the country). More ominously, Platts also reported that some Chinese customers of Saudi oil who buy the grades known as Arab Light and Arab Extra Light are being told by Aramco that they will need to take heavier grades. This is not good news as the markets move toward IMO 2020, since by definition the market will probably move to lighter feedstocks as their preference. Heavier barrels, like Arab Heavy, tend to make more high-sulfur fuel oil, which is exactly what the world does not need under the rules of IMO 2020.

–In the debate over the impact on the market on what might be referred to as "oil Twitter," it was pointed out by several people that with the increases Monday, the price of Brent at $62,90 is all the way up to…where it was around the third week of May. If it reaches $75, it's back to where it was in mid-April. That doesn't eliminate the bigger macro trend which is that the Saudi oil industry has been shown to be far more vulnerable to attack with relatively modern yet simple weaponry that hadn't been a big concern in the past, but which certainly is a concern going forward.

–President Trump may have tweeted "PLENTY OF OIL," but the fact is there isn't an excessive amount in inventory, according to the International Energy Agency. In its most recent monthly report, issued just last week, the IEA did say that commercial stocks of all forms of petroleum in the OECD nations–the so-called western economies–increased in August and are about 20 million barrels more than the five-year average. But they usually gain in August and the increase was less than the average for the month. Stocks in terms of forward demand was up just 0.1 day to 60.5 days, which the IEA said is one day less than the five-year average for this time of year. Crude inventories fell hard during the month, no surprise given that OPEC has slashed 3 million barrels/day out of its levels from the end of 2018. Its goal was to reduce inventories to more normal levels and that is what it appears it has done. But they did that not knowing that inventories might be called upon in quantities far more than normal.

–The issue also that the oil market is wrestling with now is the disappearance of spare capacity. In that IEA report, the agency said that the "effective" spare capacity for OPEC last month was 3.2 million b/d and that Saudi Arabia held 2.3 million b/d of it. It is possible that the 2.3 million b/d of Saudi spare capacity is not impacted by the drone attacks and can be brought back on. Even if the market assumes that is the case, and the rest of the OPEC spare capacity can be brought on, that is still not at the level of the 5.7 million b/d that was lost in the drone attacks. Most analysts assume that there is no spare capacity anywhere in the non-OPEC world, that all non-OPEC countries produce full out. But that is not the case now. The Alberta government is in discussions with its curtailed producers on a crude-by-rail arrangement that could double its shipments on the rails and allow production curbs to be lifted. Russia and some of its non-OPEC allies–Azerbaijan, Kazakhstan and Mexico–far exceeded their agreed-upon cutbacks in August (though Russia did not, not even close) and those countries presumably have more oil to bring back on to the market. So there are ways that more oil can be brought in, though it also means that the world's spare capacity will be getting close to non-existent if the Saudi outages go on for any length of time. (There are debates among energy economists over whether spare capacity has an impact on price but it is certainly a number that many people keep an eye on). Another way to turn more spare capacity into production would be politically fraught: the U.S. easing sanctions on Iran and Venezuela to allow them to export more oil. Finally, an increase in prices should make the economics in the U.S. shale fields more favorable and more production can be brought back on. Shale is notable in that drilling activity, and completion of previously drilled but uncompleted wells (known as DUCS), can result in a boost in production rapidly.

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