Crude markets are in for some battering. Since touching a high last month, markets have been in a losing spree. Supported by the global recovery, oil markets did attempt to break from the mould, yet large inventory stocks have left it vulnerable to correction. Fundamentals are beginning to impact.
After falling heavily for three consecutive days last week triggered by concerns about the pace of economic recovery in the United States, oil markets rebounded - albeit slightly - on Friday. New York’s main contract, light sweet crude for November delivery, rose 50 cents to $66.39 a barrel. Brent North Sea crude for November delivery climbed 58 cents to $65.40 in London trade. Markets were down more than three dollars on Thursday after falling by almost $3 on Wednesday too. Prices had also fallen by 3.2 percent Monday. The demand picture was starting to hurt. Worries about the pace of the US economic recovery intensified after data Thursday showed existing home sales falling 2.7 percent in August, amidst a larger-than-expected build up in crude inventories. Crude stockpiles in the US are 14 percent larger than a year ago as oil demand fell by 3 percent and gasoline supplies surged by more than five million barrels even though refineries took in 316,000 fewer barrels of crude each day. US distillate fuel inventories, which include heating oil and jet fuel, are the highest since 1983 at 167.8 million barrels. US gasoline supplies are 2.2 percent greater than they were in late May, the start of the peak-demand summer driving season, at 207.7 million barrels.
Gas/oil stockpiles, the European equivalent of heating oil, near Europe’s refining hub of Rotterdam reached a record 3.03 million tons (23 million barrels) on Sept. 10, according to PJK International BV of Oosterhout, the Netherlands.
More than 60 million barrels of fuel are also stored on tankers offshore, the International Energy Agency (IEA) said.
Supplies appear brimming on both sides of the Atlantic. Oil inventories within the OECD totaled about 2.8 billion barrels at the end of July, the IEA reported. The total is equal to 62 days of demand, and 4.6 percent more than the same time last year. OPEC too has been pumping 600,000 barrels a day more than the world needs, the IEA said.
Market sentiments thus stand transformed. With growing stockpiles, traders appear paying more than ever in the options market to protect against a possible plunge in crude prices. The gap between prices of options betting on a decline and those that would profit from a rise in New York oil widened to a record 10 percentage points, according to data compiled by Bank of America Securities-Merrill Lynch.
Options granting the right to sell, or put, oil in December below current prices have a so-called implied volatility of 54.3 percent, compared with 43.3 percent for the equivalent options to buy, or call, data from the New York Mercantile Exchange say.
And all this is putting pressure on oil markets. Not only do the markets seem softening, some analysts say, by the end of the year it may go down to levels where it was at the beginning.
“There’s all this heating oil with no place to go,” Philip Verleger, a professor at the University of Calgary and head of consultant PKVerleger LLC, said in an interview. “I’m fairly certain we’ll see prices in the $30s this year.”
The premium for December and other put options shows “the market is worried,” said Harry Tchilinguirian, a senior oil analyst at BNP Paribas SA in London. “If puts are pricing higher than calls, we are looking at a situation where the market is more averse to the downside and is looking for more compensation for the option”, he said.
Demand for puts may be caused by speculators betting on lower prices or by producers hedging against a decline in the value of their oil, Tchilinguirian said.
“There will be little or no sustained upward pressure on oil prices until global economic recovery is firmly established and reviving oil demand begins to draw down bulging oil inventories,” analysts at the Centre for Global Energy Studies said in their monthly oil market report released on Monday. “Even next year prices are unlikely to rise much unless clear signals emerge that the world is pulling out of recession in a sustainable fashion.” The IEA said world electricity output was likely to drop this year for the first time since 1945, while Sinopec, Asia’s top oil refiner, said demand for industrial fuels remains depressed in China, the world’s second largest oil consumer.
“Global oil demand is only slowly picking up and as of right now not at a fast enough pace to move overstocked inventories into a destocking pattern that will push inventories down to more normal levels,” said Dominick Chirichella, senior partner at Energy Management Institute.
Stephen Schork, president of consultant Schork Group Inc. in Villanova, Pennsylvania, remains of the opinion: “It was a very weak summer. We came out with more gasoline than we started.”
The scenario is weighing on the producers’ too. Saudi Arabia appears to have no intention to increase production anytime soon. Minister of Petroleum and Mineral Resources Ali Al-Naimi told the Wall Street Journal, “as far as Saudi production is concerned “we expect that to remain constant in the near future.”
The glut has already started cutting demand at refiners. The profit from turning West Texas Intermediate crude into gasoline and heating oil fell last week to $3.42 a barrel, the lowest since December. Plants in the US and Europe are being idled.
San Antonio, Texas-based Valero, the largest US refiner, shut its plant in Aruba and is idling operations in Delaware City, Delaware. France’s Total, Repsol YPF SA of Madrid and the Switzerland-based Petroplus Holdings AG have switched off refining units in Europe. Times have changed and have changed drastically; one indeed could not argue.