Energy Monitor – Silence after the storm

by: Hans van Cleef

  • Market starts to refocus on oil demand, rather than just supply
  • OPEC to meet again on 22 September; compliance remains crucial
  • Higher divergence between US and European gas prices
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Change in focus?

Now that hurricane Harvey has passed, refineries and oil & gas platforms have started to count their losses. Gasoline prices increased almost 25% in the last week of August after more than one-fifth of the refineries in the region were shut down out of precaution. But now that Gulf Coast refineries are once again operational, gasoline prices have begun to ease. In addition, the Department of Energy released 4.5 million barrels of crude from its strategic reserves to accommodate a fast restart of these refineries.

Meanwhile, WTI prices came under pressure due to a steep decline in oil demand by refineries. It is remarkable that investors and speculators suddenly focus on these demand drivers. For months – if not years – the market only focussed on supply drivers. While it is true that refinery demand dropped, several oil production platforms were taken offline in the Gulf of Mexico at the same time. The situation was similar during hurricane Katrina in 2005 when both refineries and oil production shut down. But since the market consensus assumed a balanced situation between supply and demand, fears increased that lower production could lead to oil shortages. As a result, WTI found support. This time the US inventories are high, indeed far above the 5-year averages, which has prompted a shift towards the demand side.
During a period when the market is desperately searching for a balance between supply and demand, and even inventories, such a shift in focus is remarkable. The question is therefore whether the financial markets start to anticipate the fact that the balance has already been reached. This would explain why not only supply drivers but demand are being taken into account. It would also fit the overall picture of a) ongoing solid growth in global demand, b) a moderate recovery of the US shale production, c) production cuts by OPEC, and d) limited investments in the more expensive new energy projects (especially outside OPEC and the US). The IEA data show that during the second quarter, demand was stronger than supply. In the course of October, the IEA will release its third quarter Oil Market Report, which will reveal whether this trend continued, or whether it was a false signal.

At this moment, hurricane Irma is threatening the Caribbean and Florida. The market will closely monitor developments to see if new production disruptions may occur at refineries and oil production rigs. There are not many of these refineries and rigs in that area. Still, it does indicate that the market remains very nervous about possible new production disruptions now that the hurricane season is in full swing.

OPEC compliance worries investors

On 22 September the technical committee of OPEC and non-OPEC oil producers meet to determine whether they will stick to their production cut agreement. Libya and Nigeria will join as well. Although the latter two countries are OPEC members, they did not take part in the production cut agreement. In fact, both were able to increase oil production in recent months. By doing so, the effect of the OPEC production cut was not as strong as anticipated. Indeed, the overall effect on oil prices remains limited, with Brent trading slightly above, and WTI somewhat below, USD 50/bbl.

Last week, Russia – the biggest non-OPEC oil producer participating in the production cut – indicated that a further extension of the production cut agreement is likely. This was confirmed once again by Saudi Arabia on 5 September. The current agreement is valid until March 2018, but uncertainties about the potential consequences of the expiration of the agreement are already starting to emerge. It is therefore crucial for OPEC to speak with one voice regarding its policy to prevent renewed pressure on oil prices.

Gas prices fell under pressure post-Harvey

Henry Hub gas prices declined after earlier gains based on lower gas and oil production in the Gulf of Mexico. Nearly 50% of the gas production is associated gas. This means that the gas is produced as a by-product of US shale oil production. Now that oil production has started to recover, gas production will increase again as well. This will lead to renewed pressure on Henry Hub gas prices.

The price of TTF gas (Dutch benchmark) is rising. This is the result of an increase in expected demand, combined with the rise of other commodities, like coal and oil. In addition, the uncertainty surrounding the possible closure of several French nuclear power plants is creating some upward pressure on gas and power prices. As was the case last year, local authorities may order these nuclear power plants to close for unexpected inspections. This could lead to capacity problems now that the winter season is approaching.