Weekly Energy Update (January 26, 2023)

by Bill O’Grady, Thomas Wash, and Patrick Fearon-Hernandez, CFA | PDF

Crude oil prices appear to have based but so far have failed to break above resistance at around $80-$82 per barrel.

(Source: Barchart.com)

Crude oil inventories rose 0.5 mb compared to a 3.0 mb draw forecast.  The SPR was unchanged.

In the details, U.S. crude oil production was unchanged at 12.2 mbpd.  Exports rose 0.8 mbpd, while imports fell 1.0 mbpd.  Refining activity rose 0.8% to 86.1% of capacity.

(Sources: DOE, CIM)

The above chart shows the seasonal pattern for crude oil inventories.  Last week’s mostly steady injection is consistent with last year and seasonal patterns.  We expect this year to mostly follow last year, meaning that the usual rise in inventories isn’t likely.

Since the SPR is being used, to some extent, as a buffer stock, we have constructed oil inventory charts incorporating both the SPR and commercial inventories.  For the next few months, we expect the SPR level to remain steady, so changes in total stockpiles will be driven solely by commercial adjustments.

Total stockpiles peaked in 2017 and are now at levels last seen in 2001.  Using total stocks since 2015, fair value is $107.07.

Market News:

  • We are just over 11 months into Russia’s invasion of Ukraine. At this juncture, we don’t know what the outcome of the war will be.  Ukraine has proven itself to be a formidable opponent and is clearly leveraging its “home field advantage.”  At the same time, Russia is a larger nation and still has ample resources to throw at the conflict.  But even with this uncertainty, it looks like global energy markets are unlikely to return their pre-war state.
    • Europe now knows that Russia is an unreliable supplier of energy. Moscow would need to discount prices heavily to retake the European market share.  After all, Russia used to supply 40% of EU natural gas, but now that number is down to 14.4%.
    • Putin obviously wagered that the EU would not be willing to absorb the pain from the loss of Russian oil and natural gas. He might have been right, but in a fascinating twist of fate, a mild winter has allowed Europe to see a sharp drop in natural gas prices.  Russia, for centuries, has relied on winter as its ultimate defense against invaders.  Now, winter has, at best, postponed Russia’s leverage over Europe.  As supply chains adjust, Moscow’s leverage may be permanently reduced.
    • Russian oil has to go somewhere, and it has mostly flowed to India and China in a clear benefit to those nations. This has, however, reduced market share for Middle Eastern oil producers, and we wait to see their response.
    • Even with these expanded markets, it is highly likely that Russia will lose market share on global markets and eventually be forced to shut-in production. Complicating matters further is that that the price cap is beginning to reduce Russia’s revenues.  Washington’s goal with the price cap was this reduction in revenues, but it was also meant to keep oil supplies ample.  Thus, it set a price high enough to keep Russia producing, but low enough to “hurt.”  It’s quite possible that the price is set too low.
  • On February 5, the EU will begin a price capping system on Russian oil products, along with an outright ban on Russian diesel. However, the actual setting of the caps hasn’t been resolved.
  • Although the U.S. still imports crude oil and products, the net figure is increasingly positive, meaning that the U.S. is a net exporter of oil and products. As exports increase in importance, the goals of domestic energy security will clash with the oil industry’s revenue and profitability.
  • OPEC+ is expected to keep production targets unchanged when it meets next Tuesday. The cartel is taking a “wait and see” approach to the crosscurrents of China’s reopening and a looming global slowdown.
  • There are increasing reports that drilling activity is beginning to increase as high prices may finally be triggering a supply response. The DOE is forecasting that U.S. production will average 12.4 mbpd this year and 12.8 mbpd next year.
  • Freeport LNG has announced its plant repairs are complete and the company is preparing to restart operations. Last year, the plant suffered a major accident which reduced operations for several months.  The return of this liquification plant is a bullish factor for U.S. natural gas prices.
  • China’s electricity officials warn that economic recovery in the post-COVID era will boost electricity needs. This will lift demand for coal and LNG.
  • China oil trading firm Unipec, the trading arm of Sinopec (6000028, CNY, 4.54), is reported to be aggressively buying crude oil. It isn’t clear if it is buying the crude for China or merely reselling it.  In 2022, China’s oil imports declined from the previous year, but with COVID restrictions being lifted, we may be seeing Chinese firms prepare for higher consumption.  Imports from Malaysia have recently hit a new record.

 Geopolitical News:

 Alternative Energy/Policy News:

  • There are reports that wind turbines are falling over as structural problems are emerging.
  • This chart shows the impact of France’s nuclear power on fossil fuel consumption. It shows that, at least for electricity, nuclear power can displace fossil fuels.

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