The Oil Market is in the Middle of a Tug-of-War: Here's Why

U.S. oil prices rose on Wednesday, touching a four-month high as the market focused on the big draw in gasoline inventories, shrugging off a surprisingly large addition to crude and distillate stockpiles.

On the New York Mercantile Exchange, WTI crude futures gained 28 cents, or 0.7%, to settle at $40.90 a barrel, the highest settlement since March.

Analyzing the Latest EIA Report

Below we review the EIA's Weekly Petroleum Status Report for the week ending Jul 3.

Crude Oil: The federal government’s EIA report revealed that crude inventories rose by 5.7 million barrels, compared to expectations for a 3.7 million barrels decrease. A jump in imports and a hefty decrease in exports accounted for the surprise stockpile surge with the world's biggest oil consumer. This puts total domestic stocks at 539.2 million barrels – 17.5% above the year-ago figure and 18% over the five-year average.

The latest report also showed that supplies at the Cushing terminal in Oklahoma (the key delivery hub for U.S. crude futures traded on the New York Mercantile Exchange) was up 2.2 million barrels to 47.8 million barrels.

The crude supply cover was down from 38.8 days in the previous week to 38.6 days. In the year-ago period, the supply cover was 26.5 days.

Let’s turn to products now.

Gasoline: Gasoline supplies tallied a decrease for the third time in four weeks. The fuel’s 4.8 million barrels decline is attributable to stronger demand that continues to recover from the unprecedented rout associated with coronavirus. Analysts had forecast 1.2 million barrels fall. At 251.7 million barrels, the current stock of the most widely used petroleum product is 9.8% higher than the year-earlier level and is 8% above the five-year average range.

Distillate: Distillate fuel supplies (including diesel and heating oil) increased for the 12th time in 14 weeks. The 3.1 million barrels increase reflected a drop-off in consumption, signaling weak activity levels at a time when demand usually remains strong with the onset of the summer driving season. Meanwhile, the market had been looking for a supply dip of 500.000 barrels. Current supplies — at 177.3 million barrels — the highest since 1983, 35.9% over the year-ago level and 27% above the five-year average.

Refinery Rates: Refinery utilization was up 2% from the prior week to 77.5%. 

Conclusion

The crude inventory rise surprised the market, which was expecting a decline. Supplies are now close to their highest level on record. Another potential headwind to come out of the report was an increase in storage at the Cushing hub, which rose after eight weeks.

On the other hand, though domestic output was flat week over week, the fact remains that U.S. producers have scaled back operations significantly. Weekly figures show current output at 11 million barrels per day, down from 13.1 million in the second week of March.

In particular, volumes from United States’ number one basin – Permian - is set to fall by 7,000 bbl/d month over month to 4.3 MMbbl/d in July – the third month of decline, as the likes of Diamondback Energy FANG, Cimarex Energy XEC, Concho Resources CXO, Pioneer Natural Resources and others invest a lot less money into the unconventional play in 2020.

Another piece of optimistic news was the drop in gasoline inventories. The thing that stands out is the big jump in demand, which climbed to its highest since March in a sign of recovery.

The pockets of bullish data in the report notwithstanding, investors still remain worried of the supply glut. In total, U.S. commercial stockpiles are up by more than 19% since March, while domestic fuel demand, though improving, remains weak. As it is, another build in distillate inventories in the latest report, taking supplies to 37-year high, kept traders worried.

Again, despite another rise in refinery runs, utilization in the United States remains far below the usual capacity usage at this time of the year. Downstream operators including Valero Energy VLO, Marathon Petroleum MPC, HollyFrontier – all carrying a Zacks Rank #3 (Hold) - have drastically reduced processing capacity to cope with the demand erosion caused by efforts to stem the spread of the coronavirus. The demand has still not picked up to a level where the operators think of restarting/increasing their refinery work.

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Crude is also being pressured by the second wave of coronavirus infections. As several U.S. states experience a spike in new coronavirus infections and hospitalization, there are apprehensions about another set of containment measures – already in place in certain regions - which might force many businesses to close again just after reopening. Moreover, this would create doubts around the trajectory of oil’s demand recovery.

Further complicating things, crude’s rise from the bottom could also encourage the shale patch to ramp up or resume drilling activities. In fact, the sharp gains in the price have already prompted the likes of EOG Resources EOG and Parsley Energy PE to plan for potential revival of production. 

Therefore, it appears that the oil market is at a crossroads where any direction is possible. Over the past few weeks, large but opposing forces have kept WTI hovering around $40 per barrel.

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Valero Energy Corporation (VLO) : Free Stock Analysis Report
 
EOG Resources, Inc. (EOG) : Free Stock Analysis Report
 
Concho Resources Inc. (CXO) : Free Stock Analysis Report
 
Marathon Petroleum Corporation (MPC) : Free Stock Analysis Report
 
Cimarex Energy Co (XEC) : Free Stock Analysis Report
 
Diamondback Energy, Inc. (FANG) : Free Stock Analysis Report
 
Parsley Energy, Inc. (PE) : Free Stock Analysis Report
 
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