The Energy Report: Default Mode

While oil and gas supplies plummet, petroleum prices have gone into default mode after Fitch Ratings placed the United States AAA credit rating on a watch. The debt ceiling talks debacle that have gone into overtime is raising concerns of a default. These concerns have misdirected the oil market focus from the lurking supply shortage that may end up doing more damage to the economy than a default by the United States. While some people point to a slower-than-expected rebound in Chinese demand a reason for the weakness in prices, the reality is that if China’s demand was any stronger we might be experiencing shortages already.

The market is also ignoring warnings from Saudi Energy Minister Prince Abdulaziz bin Salman that is telling the shorts to watch out, increasing the odds of another cut by OPEC that was up until then expected to stand pat. This is even as Russia says that they expect no change at the June OPEC meeting. But as people seek haven in the dollar from the political sideshow, the oil inventories look dangerously bullish unless the default causes the economy to slam into a brick wall.

Oil inventories do not reflect a slowing economy. The petroleum inventories are suggesting that we are going headlong into a supply deficit. The Energy Information Administration reports that U.S. crude-oil inventories fell by 12.5 million barrels, the largest weekly supply plunge since Nov. 25, 2022. And that was with a 1. 6-million-barrel release from the Strategic Petroleum Reserve. Without the SPR release, you would have to go back as far as 2016 to see that massive weekly supply drop. With only 12 million barrels left from the congressionally mandated Strategic Petroleum Reserve releases, the Biden team is running out of options to cool prices for the coming price spike.

Gasoline inventories also plunged this week even though refiners were running straight out, increasing gasoline production to 10.3 million barrels a day The EIA showed that refineries operated at 91.7% of their operable capacity last week. Distillate fuel production increased last week, averaging 4.9 million barrels per day. But despite their best efforts, it was not enough to increase supply. The EIA reports that motor gasoline inventories decreased by 2.1 million barrels from last week and are about a whopping 8% below the five-year average for this time of year. Distillate fuel inventories also decreased by 0.6 million barrels last week and are about 18% below the five-year average. Even ethanol supplies fell to a six-month low falling 1.15 million barrels week-on-week to 22.041 million barrels, which according to Quantum (NASDAQ:QMCO) Commodities is the lowest since the 21.298 million barrels reported for the week ending November 11, 2022, amid a ramp-up in gasoline demand heading into the summer driving season which also saw gasoline stocks hit a 6-month nominal low and a 14-year seasonal low.

Dan Molinski at the Wall Street Journal writes, “Oil investors hoping for a rebound in crude and fuel demand may find some hope in auto dealerships as lots began to fill back up with cars and trucks, and salespeople start offering seemingly unbeatable deals.

“We are marginally raising our auto sales forecast for the US to 14.3MM given a decent start to 2023,” Matt Portillo at Tudor Pickering says in a note. “We suspect that as inventories have started to normalize, fleet sales return and after three years of depressed US auto sales due to COVID, chip shortages and low inventory levels, consumers are still willing to step up to buy new vehicles even with a more challenged macro backdrop and higher interest rates. Overall, the macro trends will be most helpful for Ford and GM.”

It appears that the market has already taken into account the possibility of a default on our debt. However, if you don't believe that will happen, now might be a good time to consider purchasing. OPEC has made it clear through Saudi warnings that they are not willing to let oil prices drop significantly, and they may even implement another production cut. Despite concerns about Chinese demand, they are still importing and refining a substantial amount of oil. It's worth noting that global oil demand is currently at an all-time high.