The demise of middle distillate

It has been a while since a post and the only excuse SFOT can conjur up with is that he has been bugged down by systems issues on a daily basis. The wonders of technology. Has anyone ever hoped for things to stay simple once in a while? Looking at crude prices, we really haven't done much in the past few weeks, inspite of gold and pther commodities having a great time. In truth, the physical situation in the barrel is still very much unchanged. Inventories are still high, contango widening. With rising crude prices driven by managed money, the result is lower crack spreads, i.e the profit that refiners make by breaking down crude into various fuels. This has been an industry bane all year long and the result is for refiners to idle units to lower cost, or even to shut it altogether, witness Valero last week.

As we move into winter in northern hemisphere, the industry is focused mostly on the weather. It is now well known to industry players that the winter so far has been mild and that the forecast in the next week is still appallingly warm. While this is great for us wanting a nice weekend out, it is proving costly for this industry as the supply is high and there is no demand to meet it. Spreads and cracks, in particular, has to weaken with crude prices moving up, driven by a host of new 'investment money' finding new home for their low interest earning money. Without any significant normalisation of the weather condition, we shall not see a recovery of these middle distillate which is oversupplied, and SFOT cannot see how crude prices can go much higher here. In fact, we are in a small bear move and heading lower still as i write. Is SFOT bearish? yes but not with a lot of conviction, is he tradin the range in the chart below? Yes, as most others are doing now and rightly so.



CL1


Gasoil crack in europe

Non Inspirational

Non inspirational. The lack of convictionn and breakout has led to few opportunities Oil directionaly. The range 75-80 seems to be holding very well recently. The usually disciplined sfot opted to go against his wiser option of not getting involved until a clearer trend and it has not paid off, as he suffered what he suspects many counterparts have in so many instances, buying the highs and selling the lows. An intraday chart like below doesn't help, especially if trading breakout is what you do.



2 things of note over the past few days. 1) Total open interest is approaching the highs, as pointed out by many research houses and individual traders. Large traders are long, which normally means proces can creep up slowly, very slowly, until there are no longer any buyers, and then a big drop will follow. Will we see a scenario like this soon that will take us back into the low 70s or even mid 60s? Perhaps. However, it will be led by DXY, or equities, as expressed by the VIX. Equities futures making new highs are certainly not going to help WTI lower in the near term. Intraday trading is yet another matter.

2) Within the barrel, API came out with a set of very bearish stats. A large build in crude, gasoline and perhaps more importantly, distillate stocks. This is not going to help refining margins going forward, and certainly not the contango in products that have weakened dramatically of late. Now that the hurricane is out of the way, and experts are pointing to damages being very limited, a beraish set of product stocks will send crack levels to another new low. This time round, there may not be any hurricanes to save these margins.

God save the queen

SFOT's interpretation of the DOE data is that it was a non event in most part, except for the middle distillate draw where heating oil stocks were taken down. That should some support for the specific product, especially if we do get some sort of cold snap in the next few weeks, both in Nymex heat and European Gasoil. Note that distillate forward days cover seems to have peaked, and refinery run cut has contributed to this more than an increase in demand. Within the middle distillate pool sits the higher sulfur diesel, and the inventories have actually increased by a large chunk. That is a function of much much lower demand globally. Having said that, we are seeing very low cracks in heating oil in the US. Temperature appears to be warmer than normal over the next few days, which should keep cracks depressed. However, with stocks forecasted to continue its decline as refiners continue to cut run due to low margins, it is worth to be long some nearby cracks if it continues its slide lower.

US Distillate days forward cover

Jan09 Heat crack on Nymex

Gold continues to be strong and although it does not imply strong WTI, the recent high correlation will mean downside in WTI is fairly limited. The BOE action this morning has taken out some stops in cable and EUR is being dragged up against the USD. In turn, oil is trading above 80.00 in Dec09. Does this relationship sound familiar to all? We will continue to see this type of correlation until year end, until more risks are put on, until passive investment money starts to come through (which SFOT think is happening yet very slowly). SFOT is sitting long as he belongs to the dovish camp post FOMC, but only very slightly so. He shall leave the FED watching to expert bloggers on Macroman and other pros while taking cue from other asset classes as to where WTI can head directionally. He sees resistance at 81.90 which is the high of this contract this year and endeavours to take some profit close to the level, if he is right.

Risk on!

Its been 1 week since i had something in this blog, and this is not down to laziness i assure, nor is this down to absolute boredom in the market. Getting used to new sytem, new workflow and a new schedule is taking a little longer than expected. However, views on the market does not change and SFOT, like many others, are intrigued at the crazy turnaround in risk. Just 2 days ago, VIX was rallying above 30 and market sentiments were in risks off mode. Looks like Gold and a certain bullish Mr Buffet sent a signal to the rest of the market. Perhaps the big punters know something that i don't, as rates curve in US also steepened during the afternoon asset rally. A warning on the Fed from FT is worth reading, if you already haven't read it.

What does all these do for oil? For one, we have our weekly industry inventories data out this afternoon london time, ahead of the FOMC. API release late yesterday showed us a large draw in crude and a products build. More importantly, the draw is NOT in PADD5, which is rather bullish crude than anything. However, notice that the market has been more focused on products stocks recently than crude, which means cracks spreads will be a lead indicator for flat price, at least for a short while before FOMC. Moreover, the Brent contango remains very depressed, and by now, i am sure most market participants will know that Brent represents a better gauge for global crude inventories rather than WTI. In other words, the stock situation is still dire, though may not be as bad as 6 months ago, and SFOT suspects that beyond extraordinarily large numbers, crude stock will not be the main driver post DOEs. Refining margins have been under severe pressure of late, and SFOT will presume that refinery runs should go lower this week, particularly after cracks in distillates suffered terribly over the past few days. SFOT continues to be bearish distillates, and industry sources reveals that that part of the barrel is seeing no recovery in sight. One hint we can get is the freight rates of clean tankers from the baltic exchange, which continues to show real depressed rates in the products. These thoughts will be out of the window when it comes to this evening though, as everyone watches the Fed. For the short run, SFOT will watch Gold and the VIX as a gauge where the next move in Oil will be. Good luck

Brent refining margin
Brent dec09/dec10 spread

Baltic clean tanker index