April 18, 2019

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Natural Gas Falls To Near 3-Year Low As Loose Market & Bearish Weather Outlook Leaves Bears Unchecked; Crude Oil Dips Despite Bullish Inventory Drawdown As Refinery Demand Still Lags (For Now); EIA Projected To Announce Bearish +89 BCF Natural Gas Inventory Build In Today's Storage Report

6:00 AM EDT, Thursday, April 18, 2019
In its weekly Petroleum Status Report for April 6-12, the EIA announced Wednesday morning that crude oil inventories fell by -1.4 MMbbls, the first storage drawdown in three weeks. The draw was nearly 5 MMbbls bullish versus the 5-year average +3.2 MMbbl storage build, but was shy of Tuesday's -3.1 MMbbl American Petroleum Institute (API) forecast. With the draw, inventories fell to 455.2 MMbbls. The nascent storage surplus versus the 5-year average flipped back to a -0.5 MMbbl storage deficit. However, inventories are still up a robust 27.6 MMbbls compared to this time last year. The bullishness of the draw was driven by exceptionally soft crude oil imports which averaged just 5.99 MMbbls/day last week, the second time this year that imports failed to top 6 MMbbls/day, not having done so previously since the late 1990s. As a result, imports are down a massive 1.94 MMbbls/day year-over-year which has more than countered the rise in production which, after this week's 100,000 barrel/day decline, is "only" up 1.56 MMbbls/day. Thus, total supply, at 18.09 MMbbls/day, is down 0.4 MMbbls/day from 2018. However, this remarkable bullish turn of events is largely countered on the demand side. Refinery demand still has yet to see its traditional seasonal bump ahead of the summer driving season, falling 20,000 barrels/day last week to just 16.08 MMbbls/day, down 0.87 MMbbls/day year-over-year, as shown in the Figure to the right. With crude oil exports holding essentially flat last week, total demand at 18.48 MMbbls/day is down 0.22 MMbbls/day from 2018. This caps a remarkable flip-flop in which a demand shortfall has replaced a supply glut as the primary limiter in the oil sector. Overall, however, I viewed this as a bullish report. With both gasoline and distillate stocks at deficits versus their respective 5-year averages, at some point soon, refinery demand is going to pick up, and pick up quickly. And with Saudi-led OPEC pushing hard to suppress imports to the US, I do not expect to see a concomitant increase in imports, resulting in a tightening market and the potential for large inventory drawdowns.

However, concerns over global supply outweighed the small drop in domestic inventories in the minds of investors. WTI fell 29 cents or 0.5% to settle at $63.76/barrel, after trading as high as $64.50/barrel ahead of the EIA data. Brent slipped 10 cents to $71.62/barrel. With OPEC's June meeting fast approaching and Russia hinting that it wants to ratchet up production to maintain market share over US shale producers, investors fret that this could trigger a rise in global supplies, re-loosening the supply/demand imbalance. Domestically, crude oil is essentially right at my calculated Fair Price of $63.79/MMBTU based on current inventories alone. With two weeks of +7 MMbbls weekly builds in the past month, near-term supply/demand balance is somewhat loose thanks to the combination of continued week refinery demand and the recent closure of Houston's shipping channel. For this reason, my projected Fair Price actually retreats to near $60/barrel over the next several months, as shown in the Figure to the right. However, assuming that refinery input rises as expected and that OPEC is able to keep imports to the US low, I expect this balance to tighten significantly. At this time, I am cautiously maintaining my WTI price target at $65/barrel. Should oil retreat to this projected longer-term Fair Price of $60/barrel, I feel that this represents an ideal buying opportunity for a short-term swing trade on anticipation that the market will tighten.

Meanwhile, the sell-off in natural gas prices ramped up on Wednesday as threat of a string of triple digit storage builds increases. The May 2019 front-month contract slid 6 cents or 2.1% to $2.52/MMBTU, the lowest close for the commodity since June 8, 2016. After the close of floor trading, the contract retreated further, finishing the afternoon near $2.50/MMBTU. The June 2019 contract, held by natural gas ETFs, closed at $2.56/MMBUT. As the Figure to the right shows, the recent sell-off in natural gas prices has resulted in the development of a significant contango across futures contracts for the rest of 2019 with the December 2019 contract trading at a substantial 15% premium to the front-month. This is another headwind for natural gas bulls, particularly traders of long natural gas ETFs as it will result in increased underperformance of these products due to monthly rollover losses. With a sizable--but shrinking-- storage deficit just under -390 and the commodity steeply oversold technically, I would not be surprised to see a near-term bounce, perhaps to north of $2.60/MMBTU. However, the sector still doesn't have a meaningful catalyst with seasonal temperatures expected into May and LNG exports languishing nearly 1 BCF/day below all-time highs. For this reason, I remain bearish on the commodity's prospects near-term and feel that prices will remain capped under $2.60/MMBTU.

Thanks to falling oil prices, my Oil & Natural Gas Portfolio retreated slightly from Tuesday's 2019 high yesterday, falling 0.1% on the session. 2019 year-to-date gains stand at +12.4% or +41.5% annualized. I did make a pair of trades on Tuesday. Despite my generally bearish sentiment on the sector, I do feel that natural gas could be in for a bounce near-term. With the June 2019 contract falling below $2.60/MMBTU Wednesday morning, I took profits on a 3% stake of my UGAZ short trade--realizing a +25% profit--and used these funds to short more DGAZ, flipping the portfolio from net long to net short. Presently, my 13% DGAZ short position is partially offset by a 6.6% UGAZ short position, meaning that the portfolio is a modest 6.4% net long. As discussed previously, the idea behind these partially offsetting positions is to benefit from leverage-induced decay over the long-term. This will hopefully be a short-term swing trade, playing a bounce to $2.65/MMBTU for the June contract, at which point I may very well flip back to net short. My long oil trade via short DWT stands at 5.8% of my holdings. Despite the trade being +36.1% in the black, I am stubbornly maintaining my $65/barrel WTI price target. Should the commodity pull back to under $60/barrel, I will consider adding to the position. The trade is hedged by a 9.5% SVXY short position which should protect against a drop in oil fueled by an equities market sell-off. Click HERE for more on my current oil and natural gas holdings.

The EIA will release its weekly Natural Gas Storage Report for April 6-12 this morning at 10:30 AM EDT. I am projecting an exceptionally bearish +89 BCF storage injection. Such a build would be 68 BCF bearish versus the 5-year average and 125 BCF larger than last year's -34 BCF draw. As the Figure to the right shows, a +89 BCF build would be the largest in the last 5 years by a 19 BCF margin, handily topping 2015's +70 BCF injection. The bearishness of the build was driven by temperatures which have been unseasonably mild throughout the week, particularly across the East, with a mean nationwide temperature averaging 61.4F, nearly 5F warmer-than-normal. Additionally, despite the spike in the past 2 days, total LNG feedgas demand fell for a third straight week to 23.0 BCF, down 2.5 BCF from the previous week and the lowest since the week ending February 8. Should a +92 BCF injection verify, natural gas inventories would rise to 1244 BCF while the storage deficit versus the 5-year average would contract to -419 BCF. The storage deficit versus the 5-year average would contract to -60 BCF, or just 4%. Click HERE for more on the week's projected build.

With natural gas sentiment exceptionally poor right now, I feel that investors are just looking for excuses to sell and that today's report carries more downside risk than upside potential, even with the commodity as oversold as it is. I feel that a reported injection of +92 BCF or larger could result in front-month prices falling under $2.50/MMBTU while it would take a build of under +85 BCF to be considered a bullish surprise and support a move above $2.55/MMBTU. However, I feel that even if today's report surprises to the downside, any rally will likely be transient and would be viewed by the bears as just another opportunity to pile into the trade on the short side. A reported build between +85 BCF and +92 BCF would be neutral versus expectations with prices equally likely to rally or pullback.

Check back at 10:30 AM EDT for the official EIA storage withdrawal on my Current Natural Gas Inventories Page HERE. Also, I now have weekly natural gas supply and demand statistics on my Natural Gas Supply & Demand Page HERE that should be updated between 3 pm and 4 pm EDT.