Author: Brynne Kelly 8/01/2021
The start of August marks the end of seasonally peak demand by refiners for crude oil in the US. One of the key drivers of this is the onset of fall refinery maintenance season, which typically takes place during the shoulder months (Mar-Apr and Sep-Oct) and leads to less refinery throughput.
Shoulder months are the time of the year when demand is expected to be at its lowest and therefore refiners seize this opportunity to take units down for required maintenance.
Shoulder months are also a time when any stress on refined product supply can cause exaggerated market responses since inventory is relied on to make up any shortfall. The risk in the spring is generally characterized by a late, unexpected cold snap which drives up heating demand, and the risk in the fall is generally characterized by the potential for a very damaging hurricane along the USGC that disrupts refined product supply.
One of the most prolific reactions in recent history by gasoline markets to a USGC hurricane happened during Hurricane Harvey in late August of 2017 when refiners dealt with power outages and flooding. This led to a spike, into expiration, of the September vs December calendar spread in gasoline futures, since the September contract was the still on the board as Harvey made landfall.
We saw a similar pattern in US ULSD markets, although to a lesser extent than in gasoline markets.
By contrast, the impact on the Sep/Dec spread in WTI was benign since oil throughput was reduced due to storm-related refinery outages.
According to the American Petroleum Institute (API), this year's hurricane season (2021) is forecast to be an above-average Atlantic hurricane season. Last year’s record 30 named storms forced shutdowns of offshore oil production that reached, at one point, 90% of 1.9 million barrels per day in production and idled refineries for weeks. Two refineries in hard-hit Lake Charles, Louisiana, were shut for months.
Supply-side disruptions of any kind this year would come at a time when total US petroleum inventories are close to their lowest point in 7 years (dark purple line below).
Earlier we noted the monthly shape of refiner utilization. This is starting to play out in the relative value of WTI calendar spreads. With September and October typically characterized as refinery outage months, the front two WTI spreads have started to weaken relative to the Nov/Dec spread (gold line below). This follows the 'shape' of monthly refiner inputs.
This year, on top of the normal fall seasonality and hurricane risk, we also have to contend with countries withholding gasoline exports in order to keep a lid on in-house prices. According to Reuters, Russia's energy ministry said last Friday that it filed a proposal for the government to start a procedure for a ban on gasoline exports. "The energy ministry proposed to the government to launch an urgent procedure of banning exports of gasoline," the ministry said in a statement. It said earlier that the ban may help to reduce domestic prices for gasoline after they rose in recent months, which is a sensitive issue for Russia ahead of the September parliamentary election.
Get long gasoline cracks ahead of outage season?
With disruptions from potential hurricanes, bans on gasoline exports by some countries, petroleum inventories near 7 year lows, and seasonal refining maintenance on the horizon, one might be tempted to to get long Q4 gasoline cracks. After all, we know that OPEC+ will be progressively raising crude oil output by 400k bpd every month for the foreseeable future while gasoline production could face tighter global supply issues if countries follow-through with banning gasoline exports. Yet, when looking at the performance of Q4 gasoline cracks since 2014 we note that we are already trading near the top end of the recent historical range (gold line below).
We are still in unprecedented times as pandemic effects linger across the complex and threaten to cause disruptions in demand going forward. This, coupled with US gasoline inventories, are holding people back from establishing new length at these levels, even though the fundamental backdrop looks quite positive in the near term. As we noted earlier, total inventories (crude oil + gasoline + distillate) are near 7 year lows. However, gasoline inventories alone are well within their historical range. The market considers this a weak link and is skeptical as to whether or not we get further draw-downs during August (the last of the peak summer demand months) and into the fall like we have seen in previous years.
Doing its part, US gasoline demand managed to hit a historical peak ahead of the July 4th holiday weekend this year (EIA week ending July 2).
Gasoline has even managed to trade flat to ULSD in the October-21 contract, which is not the historical norm as peak driving season has ended by then and winter heating season is just beginning.
While the combination of low inventories, reduced export of gasoline by some key countries, refinery maintenance and hurricane season, it might seem as though we are setting up for the perfect storm and the way to express that would be via length in gasoline or gasoline cracks. Demand data continues to look up. According to GasBuddy data, weekly US gasoline demand has set another 2021 record, rising 0.3% from last week (Sun-Sat).
However, as shown above, gasoline appears to be at the top end of its value relative to it's peers - crude oil and distillate. This makes the market vulnerable to time - the time it takes to wait for the above combination to realize. But, it does suggest that unless things change, pullbacks should be bought.
OF NOTE OVER THE WEEKEND - OMAN TANKER ATTACK UPDATE
UK assessments have concluded that it is highly likely that Iran attacked the MV MERCER STREET in international waters off Oman using one or more Unmanned Aerial Vehicles. We believe this attack was deliberate, targeted, and a clear violation of international law by Iran.
U.S. CONFIDENT IRAN CONDUCTED ATTACK ON ISRAELI-MANAGED TANKER OFF OMAN – U.S. SECRETARY OF STATE BLINKEN
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EIA Inventory Statistics Recap
Weekly Changes
The EIA reported a total petroleum inventory DRAW of 9.40 million barrels for the week ending July23, 2021 (vs a build of 0.710 million barrels last week).
YTD Changes
Year-to-date cumulative changes in inventory for 2021 are DOWN by 94.00 million barrels (vs down 84.60 million last week).
Inventory Levels
Commercial Inventory levels of Crude Oil (ex-SPR) compared to prior years are have gone from way above historical levels to slightly below historical levels and should continue to draw as long as backwardation in the market persists.
