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Why oil prices fell to lowest point since July on inventory surge

Ingrid Pan, CFA

Oil inventory figures reflect supply and demand dynamics and affect prices

Every week, the US Department of Energy (the DOE) reports figures on crude inventories, or the amount of crude oil stored in facilities across the US. Market participants pay attention to these figures, as they can indicate supply and demand trends. If the increase in crude inventories is more than expected, it implies either greater supply or weaker demand and is bearish 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 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 build was much more than expected, sending oil prices downward

On October 9, the DOE reported an increase in crude oil inventories of 6.8 million barrels. In contrast, analysts actually expected a crude oil inventory build of 0.9 million barrels. The larger-than-expected increase in inventories was a negative signal for oil prices.

Consequently, WTI crude oil traded down on the day, closing at $101.61 per barrel as compared to $103.49 per barrel the day prior. This was the lowest level for WTI crude since early July.

Background: US crude oil production has pushed up inventories over the past few years

From a longer-term perspective, crude inventories had been much higher than 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 US crude oil production over the past several years. Inventories had accrued because much of the excess refinery and takeaway capacity had been soaked up and it took time and capital for more to come online. This caused the spread between WTI Cushing (the benchmark US 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 has closed in considerably so that the two benchmarks trade almost in line again.

Lately, more takeaway solutions have come online

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

This week’s larger-than-expected build in US inventories was a negative short-term indicator for WTI crude prices

WTI price movements and broader oil price movements affect crude oil producers, 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. Plus, oil price movements affect energy sector ETFs such as the Energy Select Sector SPDR Fund (XLE), an ETF that includes companies that develop and produce hydrocarbons as well as companies that service them.

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