Why another large inventory draw boosts oil prices, a short-term positive

Market Realist

Oil inventory figures reflect supply and demand dynamics and affect prices

Every week, the U.S. Department of Energy (DOE) reports figures on crude inventories, or the amount of crude oil stored in facilities across the United States. Market participants pay attention to these figures, as they can indicate supply and demand trends. An increase in crude inventories that’s more than expected implies either greater supply or weaker demand and is bearish (negative)  for crude oil prices. If the increase in crude inventories is less than expected, it implies either weaker supply or greater demand and is bullish (positive) for crude oil prices. Crude oil prices highly affect earnings for major oil producers such as Oasis Petroleum (OAS), Hess Corp. (HES), Chevron (CVX), and Exxon Mobil (XOM).

Inventory draw was much larger than expected: short-term positive

On July 17, the DOE reported a decrease in crude oil inventories of 6,902 thousand (or 6.90 million) barrels. In contrast, analysts actually expected a crude oil inventory draw of 2,000 thousand (or 2.00 million) barrels. The large decrease in inventories compared to the smaller expected decrease in inventories was a positive signal for oil prices. Crude prices were also supported by remarks from the minutes of a Fed meeting showing that it would require further improvement in U.S. employment before curtailing stimulus measures. WTI closed on the day at $106.48 per barrel compared to $106.00 per barrel the prior day.

U.S. crude oil production has pushed up inventories over the past few years

From a longer-term perspective, crude inventories had been much higher than where they were in the past five years at the same point in the year (though they’ve recently closed in under comparable 2012 levels). There has been a surge in U.S. crude oil production over the past several years, and inventories accrued because much of the excess refinery and takeaway capacity had soaked up, and it took time and capital for more to come online. This caused the spread between WTI Cushing (the benchmark U.S. crude, which represents light sweet crude priced at the storage hub of Cushing, Oklahoma) and Brent crude (the benchmark international crude, which represents light sweet crude priced in the North Sea) to blow out. However, over the course of 2013, this spread has closed in considerably.

But lately, more takeaway solutions have come online

Midstream companies have been actively looking for solutions to transport U.S. crude oil and have helped move crude out of hubs such as Cushing. New infrastructure projects also require “pipe fill,” a base level of crude to fill the pipelines and move oil through the system, which has increased demand for U.S. light sweet crude. Consequently, the spread between WTI and Brent has closed in significantly. For more on that development, please see Spread between WTI and Brent vanishes, lower relative U.S. oil prices.

Short-term positive indicator

This week’s larger than expected draw in U.S. inventories was a positive short-term indicator for WTI crude prices. WTI price movements and broader oil price movements affect producers of crude oil, as higher prices result in higher margins and earnings. Names with portfolios slanted towards oil, such as Oasis Petroleum (OAS), Hess Corp. (HES), Chevron Corp. (CVX), and Exxon Mobil (XOM), could see margins squeezed in a lower oil price environment. Additionally, oil price movements affect energy sector exchange-traded funds (ETFs) such as the Energy Select Sector SPDR Fund (XLE), an ETF that includes companies that develop and produce hydrocarbons and companies that provide services to them.

More From Market Realist

View Comments