Why natural gas traded against the inventory report (Part 2 of 2)
Oil inventory figures reflect supply and demand dynamics and affect prices
Every week, the U.S. Department of Energy (or DOE) reports figures on crude inventories, or the amount of crude oil stored in facilities across the U.S. Market participants pay attention to these figures because 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 like Oasis Petroleum (OAS), Hess Corp. (HES), Chevron (CVX), and Exxon Mobil (XOM).
Larger-than-expected inventory draw: Positive for oil prices
On December 11, the DOE reported a decrease in crude inventories of 10.6 million barrels compared to analysts’ expectations of a crude oil inventory draw of 2.7 million barrels. The larger-than-expected decrease in inventories was a positive signal for oil prices.
Oil prices popped at the time of the data release, from ~$97.75 per barrel to ~$98.30 per barrel, though they ended the day down around $97.40.
Note that the inventory report also showed a significant build in refined product inventories (gasoline and diesel), which are the products that refineries produce after crude oil passes through them. These higher-than-expected refined product inventory builds are ultimately a negative signal for crude oil prices, as higher stocks of gasoline and diesel mean refineries may potentially need to process less crude, which is negative for demand.
Background: U.S. crude oil production has pushed up inventories over the past few years
From a longer-term perspective, crude inventories are much higher than they were in the past five years at the same point in the year (though they had closed in under comparable 2012 levels for a period earlier this year). There has been a surge in U.S. 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 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 closed in considerably, so that the two benchmarks traded almost in line again, as more takeaway capacity from the Cushing hub came online. Recently, however, the spread has widened back out (see Why the WTI-Brent oil spread closed in sharply for more analysis).
This week’s larger-than-expected draw in U.S. inventories was a positive short-term indicator for WTI crude prices, though large builds of gasoline and diesel inventories were a negative signal. 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, like 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 like the Energy Select Sector SPDR Fund (XLE), an ETF that includes companies that develop and produce hydrocarbons as well as companies that service them.
Browse this series on Market Realist: