You would have thought the inventory report Wednesday morning turned up an unexpected surplus of 8 million barrels instead of 800,000. The $5 drop in crude was a massacre for those already long and hoping for another decline in inventories. This is just another example of the volatility in the futures market when prices are in bubble mode.
The minor gain in crude inventories of 800,000 barrels was due almost completely to a drop in refinery utilization from 89.3% the prior week to only 88.6% this week. That 0.7% drop is about 154,000 bpd times 7 days or 1.05 million barrels. No surprise there.
The surprise came from the drop in demand for crude to 20.079 million barrels per day compared to 20.456 mbpd the prior week. That is a net drop for the week of 2.639 million barrels and the lowest weekly demand since Jan-2007. Overall crude demand is now 3.2% lower than the same period in 2007 and comparable with the summer of 2003. Basically all that demand that was added in the U.S. over the last 5-years has been erased by the high prices.
Crude imports were unchanged at 10.3 million barrels per day. Much of the increase in production by Saudi Arabia should come to America because several of our refineries have heavy crude capability. Valero (NYSE:VLO) specifically has one-third heavy crude capability and one-third medium crude so they will probably be picking up that Saudi crude at a discount.
The drop in demand caused refineries to cut back on output and allowed inventories to rise. If this continues it will not be too long before the current price plateau collapses. The current chart pattern has changed from a consolidation pennant to a potential island plateau and this week could be the turning point for prices.
Also pressuring prices was a restart of the Nigerian Bonga field by Shell. This field produces 225,000 bpd of light crude and was knocked offline over a week ago by a MEND rebel attack. Shell claimed force majeure (FM) on deliveries through July and they have not lifted that FM yet but should later in the week. On the flip side Chevron declared FM on 120,000 bpd of light crude from the Nigerian Escravos terminal after armed youths blew up a supply pipeline last week. Chevron gave no timetable for repair but normally it takes days rather than weeks to repair a pipeline. You may recall that the MEND rebels declared an unconditional cease-fire as of Tuesday and the country should be making plans to return to normal soon. Oil production had fallen to a 25-year low in Nigeria due to the MEND attacks over the last year. With about 944,000 of light crude shut-in for months now a return of that crude to the market would have a dramatic impact on prices.
Barclays Plc, Morgan Stanley and Citic Group, a state owned investment company of China, announced they were going to start a commodities exchange in Hong Kong to trade dollar denominated oil futures and other raw materials commodities. The plan is to open commodities trading to traders in China. Can you imagine the monster bubble when 1.2 billion Chinese get the capability to buy oil contracts?
Sen. John McCain vowed Wednesday to break the partisan deadlock on energy policy saying the dependence on foreign oil puts the U.S. in a dangerous situation. "When we buy foreign oil, we are enriching some of our worst enemies," during a speech in Las Vegas. He called Obama the "Dr. No" on energy security. No on further exploration, no on gas tax relief, no on expanded nuclear power, no on a subsidy to invent a long life battery for electric cars and no on offshore drilling. Obama called McCain's energy plans "gimmicks" that would only increase our oil addiction for another four years. Obama plans to tax profits at big oil companies and use the money to help poor families pay their fuel bills. Why is it that politicians don't understand that taxing any business just raises their fixed costs and causes them to raise prices to offset that cost? Instead of 4$ gasoline the middle class will be paying $5 while Obama gives the poor people free gas. Something is wrong with that picture. One thing for sure, $4 gasoline sure gave the candidates a lot of mud to sling at each other.