Traditionally, the gasoline inventory build ahead of the US driving season, concurrent with the “seasonal trade” for refiners, leads to a price peak within a week or two of Memorial Day. This year, while the Q1 run-up is not that unusual, it follows a dramatic rise during 2010, and, perhaps for the first time, reflects monetary and international, rather than US, fundamentals (meager demand growth, mid 80s operating rates, all-time record margins!). Now, with retail prices well over $4 in most markets, both evidence of weakening demand and lower crude prices (see below) may provide some relief to summer drivers. This month we touch on several derivative issues in transport fuels.
But first….So what is the Price/Value of Oil?
Recent days highlight, in the ‘other direction,’ that oil is a commodity, priced not only on physical supply and demand, but the sentiments associated with financial interests. The popularity of oil (and other) commodities as an asset class, on a near vertical ramp to 2008, has resumed, in particular as various financial crises have forced devaluation of key currencies around the world. The struggle between fundamental (longer term) and most asset class (often speculative) interests is not new, but the mix shift has continued to favor shorter term effects on price. Markets appeared to have ignored or, worse, criticized, Saudi Aramco’s (SA) March production cut. Aramco reports that they cut production due to lack of demand. Some draw on conspiracy theory to claim this meant that SA could not (or chose not to) produce to meet a high price (i.e. demand). While there are layers of complexity to this situation (such as crude quality, oil in transit, and harsh institutional memories), the role of non-fundamental interests IS real, and elevated. A return to stability at a lower level is not such a bad outcome. While the largest exporters have interest in maximizing price, their reliance on the economics of a single product to support their country-economies does introduce a level of risk management that customers don’t always appreciate. Price-induced recessions are one thing, but some aspects of demand destruction are not reversible. Buyers and sellers may be much healthier somewhere between $80-$100, elevated from $70-85 primarily to support the liberalization programs necessary to stabilize key countries (and offset the long-term depreciation of paper currencies). I still believe that a fundamental price spike is likely sometime before 2013, but that the recent rise is not ‘The Big One.’