Weekly Energy Update (June 1, 2023)

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

Oil prices have been volatile in front of the OPEC+ meeting.

(Source: Barchart.com)

Commercial crude oil inventories fell a whopping 12.5 mb when compared to the forecast build of 1.5 mb.  The SPR fell 1.6 mb, putting the total draw at 14.1 mb.

In the details, U.S. crude oil production fell 0.1 mbpd to 12.2 mbpd.  Exports rose 0.4 mbpd, while imports rose 1.4 mbpd.  Refining activity rose 1.4% to 93.1% of capacity.

(Sources: DOE, CIM)

The above chart shows the seasonal pattern for crude oil inventories.  After accumulating oil inventory at a rapid pace into mid-February, injections first slowed and then declined.  As the average line shows, we are nearing the seasonal draw period, although that pattern has become less reliable with the U.S. exporting crude oil.

Fair value, using commercial inventories and the EUR for independent variables, yields a price of $59.17.  We will wait to see if OPEC+ (see Market News below) moves to push prices higher by cutting output.

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.  With another round of SPR sales set to happen, the combined storage data will again be important.

Total stockpiles peaked in 2017 and are now at levels last seen in 2002.  Using total stocks since 2015, fair value is $94.63.

Market News:

 Geopolitical News:

  • China continues to delay approval for another pipeline from Siberia. As we discussed last week, China appears to be getting remarkably cheap natural gas from the current Power of Siberia pipeline and is seemingly driving a hard bargain on funding a second pipeline.  Russia is in a tough spot on natural gas as its pipeline network is designed to send gas to Europe, but that market has been mostly lost due to sanctions (although not completely as Ukraine is still allowing Russian gas and oil to go through its territory).  Moscow needs to reroute pipelines away from Europe and toward Asia.  Beijing knows this, but despite promises of friendship, it isn’t willing to invest much to support Russia’s goal of moving its gas east.
  • The Kingdom of Saudi Arabia (KSA) is participating in the evasion of Western sanctions on Russia by importing Russian diesel and then re-exporting it.
  • One of the key benefits of a globalized world is that countries can specialize in what they most efficiently produce, which tends to lower inflation. As geopolitical tensions lead to a breakdown of globalization, nations may be forced to manufacture items that they might not be best at but still need to produce due to insecurity of supply.  China is especially vulnerable to food and energy deficiencies.  Due to its high population, limited arable land, and water constraints, China has tended to be a net importer of food.  With energy, China became a net importer in 1994.  As relations between the U.S. and China deteriorate, Beijing is vulnerable to the U.S. Navy’s ability to close off shipping lanes.  In response, China is considering new ways of securing food and energy.
  • Russia has always considered Central Asia to be in its sphere of influence. In fact, during the Soviet era, the “stans” were part of the union.  These areas are rich in natural resources.  China is openly competing with Russia for dominance in this area, in part to secure key resources, and in part to exercise dominance over Russia.
    • We also note a Russian scientist working on hypersonic missiles has been detained on charges that he was selling secrets to China.
  • German regulators are promoting heat pumps and looking to ban gas-fired boilers. The Greens support this idea, but other members of the ruling coalition oppose the measure.  This issue is fracturing the coalition, and although we doubt the government will fall over this measure, tensions within the coalition have been rising for some time.
  • Iran has launched an alternative to the S.W.I.F.T. network in a bid to circumvent U.S. financial sanctions.

 Alternative Energy/Policy News:

  • During the first decade of this century, ethanol was thought to be a way to reduce America’s dependency on foreign oil. Regulations at the time envisioned a steady rise in the ethanol fuel mix.  However, the shale revolution reduced U.S. dependence on foreign oil, undercutting the national security argument for corn-based fuels.  Complicating matters further was that geopolitical disruption boosted grain prices significantly; using corn for fuel is seen as boosting food prices.  The Bush-era ethanol mandate has expired and it looks like the industry is being forced to defend current sales rather than boosting future use.
  • From the outset of the environmental movement, there have been tensions between the “Buckminster Fuller” wing and the “Thomas Malthus” wing. The former leans on technological fixes to environmental problems, while the latter believes reliance on technology creates an endless “treadmill” of solutions that leads to new problems where the only real solution is a decline in living standards.  This division often emerges, and the most recent instance appears to be tied to the carbon-removal industry.  The UN released a report critical of carbon renewal, because it is fearful that relying on it will curtail the drive to deploy alternative energy.  However, industry experts indicate that without direct carbon capture, meeting temperature targets will be impossible.
    • German police raided the homes of climate activists on suspicions that they were planning attacks on oil pipelines.
    • One interesting sidenote with captured CO2 is what exactly to do with it. Although the gas has some industrial uses (in beer, for example), the amount of gas that is needed to be captured to make a difference far exceeds industrial demand.  However, one way the gas could be used, paradoxically, is to make synthetic natural gas.  By combining hydrogen with captured CO2, you can create a clean methane that would seemingly be carbon neutral.
    • Exxon (XOM, $102.61) has made a deal with steelmaker Nucor (NUE, $132.72) to build a carbon-capture program.
  • Resource nationalism is on the rise. Recently, we noted that South American commodity producers are considering nationalizing production of key metals, such as lithium and copper.  The Congo wants to change its royalty arrangements with foreign firms (mostly Chinese) on copper projects, in another example of resource nationalism.  This factor increases the attractiveness of key minerals in geopolitically safe places.  A new lithium development in Portugal has been especially welcomed.
  • Clean energy proponents are pressing to streamline projects, a complaint heard from fossil-fuel companies as well.
  • The president’s moratorium on solar panel tariffs survived a potential override of his veto.
  • As we noted last week, China continues to dominate in EV components. Chinese battery companies are beginning to invest in productive capacity outside of China, perhaps to avoid a deteriorating geopolitical environment between the U.S. and China.  Europe is a primary target for this investment.
  • When a new technology is developed, it takes a while for the industry to establish standards. Initially, there is a temptation for each firm to create its own standards with the hopes that they become dominant, as this adoption can create market power.  At the same time, widespread adoption usually requires a few standards so it’s easier for consumers to use the new technology.  The classic example is the VCR versus Betamax standard for videocassettes.  Although the latter was thought to be superior, the former dominated and eventually eclipsed Betamax.  Consumers would have otherwise needed two machines to handle the format.  This week, Ford (F, $12.13) announced that it would adopt the Tesla (TSLA, $197.40) NACS standard, which will allow Ford vehicles to use the 12k Tesla charging stations.  Other EV makers use the CCS standard.  By making this decision, Ford is increasing the odds that the Tesla standard will prevail.
  • A German startup has won funding for a new fusion energy machine.

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