US crude oil stocks declined 2.2 MMBbl last week. Gasoline and distillate inventories declined 2.2 MMBbl and 3.8 MMBbl, respectively. Yesterday afternoon, API reported a crude oil draw of 1.85 MMBbl alongside gasoline and distillate withdrawals of 2.06 MMBbl and 6.67 MMBbl, respectively. Analysts were expecting a crude oil draw of 0.72 MMBbl alongside gasoline and distillate withdrawals of 0.45 MMBbl and 1.38 MMBbl, respectively. The most important number to keep an eye on, total petroleum inventory levels, declined a modest 1.5 MMBbl. For a summary of the crude oil and petroleum product stock movements, see the table below.
US crude oil production was estimated to be up 84 MBbl/d from last week, per EIA. Crude oil imports were down 1,226 MBbl/d last week, to an average of 7.3 MMBbl/d. Refinery inputs averaged 16.5 MMBbl/d (75 MBbl/d less than last week), leading to a utilization rate of 90.4%. The report is bullish due to an overall total petroleum inventory withdrawal driven by crude oil, gasoline, and distillates. Higher production and lower imports should be noted, however. Prompt-month WTI was trading up $1.98/Bbl at $71.04/Bbl at the time of writing.
The market has clearly been focused on the Iran deal. On Tuesday, President Trump pulled out of the Iran nuclear agreement and said that economic sanctions would be imposed. Oil prices slipped early yesterday, recovered slightly on the news, but still ended the day lower. This signaled that the market had already baked this scenario into prices. Analysts have argued that Iranian production is largely not going to be impacted unless other allies also agree to reimpose sanctions. Despite President Trump’s threat of further sanctions against any nation that helps Iran, it remains to be seen what Iran’s major export destinations of China, India, South Korea, and Europe eventually do. Additionally, the US sanctions may take months to come into effect as the Treasury must clearly define the sanctions and allow for a period of adjustment, which it defined as six months for the oil and gas industry. This means that the impact (however large it may turn out to be) on Iranian oil exports will come into effect in 2019.
With the looming uncertainty around the impact of Iranian crude oil sanctions on supply and prices, what OPEC will do when the quotas expire at the start of 2019 will once again come into focus. Given the spiraling Venezuelan production and the threat of Iranian sanctions taking as much as another 1 MMBbl/d (by some analysts’ estimates) off the market, OPEC countries will likely choose to cash in on higher prices and fill the gap. Such a move will hinge on OPEC kingpin Saudi Arabia’s willingness to allow for this move before the Saudi Aramco IPO, which it wishes to execute at the highest price possible.
Undoubtedly, the Venezuelan production declines along with the geopolitical changes and unrest have played a large role in the WTI price in the past several months. Venezuelan declines have helped global inventories draw quicker than previously expected. Global crude oil and petroleum product inventories are now on track to normalize to the five-year range beginning from before the 2014 price crash through as early as late 3Q2018. The speculative sector has led the price charge, increasing managed money long positions to historical levels as a percentage of open interest recently. Some of this speculative length may liquidate as traders take profits from their Iran bet and look to close positions at the psychological price level of $70/Bbl. However, volatility will continue to hold over the market as the following key questions still need to be answered:
- Will key Iran oil export markets join the US in imposing sanctions on Iran? This will determine the real impact of the Iran deal on supply and demand fundamentals.
- Will OPEC choose to abandon the quotas and fill the gap in supply left from Venezuelan and possibly Iranian declines? The curtailed volumes may come back to take advantage of the higher price environment.
- What will US production do? We know US production will continue to grow, and recent estimates from the EIA increased the 2019 outlook to 11.86 MMBbl/d. In a higher price environment, the US will certainly expand CAPEX and production as prices incentivize domestic producers to fill the gap.
- What will demand do? IEA estimates put crude oil and petroleum product demand growing at 2% this year and next. Higher oil prices and various sanctions and trade wars could possibly slow that pace.
And while geopolitics can’t be distilled to a single question, there will certainly be new factors that arise in which the speculative sector likely will partake.
All the above commentary does certainly show that oil prices will remain volatile in the coming weeks to months. However, given that US production growth and currently curtailed OPEC production are sufficient to meet demand growth next year, even with Venezuelan declines and a squeeze on Iranian exports, fundamentals dictate that prices do not have any reason to climb further. The speculative longs, however, high off the recent run up to $70/Bbl, may extend this run further on the many questions that remain unanswered. Drillinginfo continues to monitor the possible scenarios but believes that a fundamentally driven price level would result in a lower equilibrium around $65/Bbl.
Please find the updated Drillinginfo charts on the link below: