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Storage Wars

Refiners across the US (and globe for that matter) have been the first responders in the fight against plummeting demand for oil and fuel. This makes sense since gasoline is trickier to store than oil (due to seasonal blending specifications), and the hardest hit in the fuel chain has been gasoline and jet fuel. As a result of reduced refinery runs, the US saw it's first glimpse of this in last week's storage report, which showed a build of almost 14 million barrels of crude oil for the week ending March 27, 2020. This would imply a storage injection rate of 2 million barrels per day for the week. To keep things in perspective, we are tracking current inventory levels against total storage capacity in the US for crude oil, gasoline blending components and distillates.

The US still has 176 million barrels of conventional on-shore storage capacity available excluding SPR (including SPR, available capacity is 255 million barrels). If the average daily fill-rate seen last week of 2 million bpd were to continue, we would fill non-SPR oil storage to capacity in around 3 months (or, the end the end of June). Keep that in mind as you look at WTI one-month calendar spreads in the chart below.

Barring any sudden return of demand in July, one might be tempted to think the June/July calendar spread (represented in violet as the M2/M3 spread above) to actually be the 'pain point' on the curve - as in there will be no more 'room at the inn' so to speak by the end of June. In many ways, the oil complex is a fairly simple system. As seen below, inventory (green line) is the balancing factor when the rate of change in refiner inputs differs from the rate of change in production. This dynamic will play itself out every day going forward. Refiners have made their move to balance their system. Without an equal response by producers, we will see barrels pushed into inventory every day going forward.

With each addition to inventory, we add more days/months to the amount of time it will take to balance the system once demand returns. Bloated inventories will need to be worked off before the market can even think about a balanced supply/demand picture. We saw this in 2015 when supply growth in the US began to outpace capacity prior to the export ban being lifted. It took almost 3 years to work off that inventory excess, and this was during a period of global demand growth! It also took disciplined supply cuts from OPEC beginning in 2017 to finally tip the scales.

During the 3 years it took to work off excess US inventories, WTI prices languished for the most part (gold line above). Yet during 2016 to 2018, the US export ban was lifted, OPEC implemented supply cuts and global demand for oil products was growing. This is the reality of building inventory to capacity. There is no quick fix. The quick fix that everyone is looking for at the moment is a coordinated supply cut across the globe. While anything could happen, it's impossible to imagine who helps whom with supply cuts. As in, everyone wants someone else to cut so that they can maintain their own production. In the US, we believe supply cuts will only be in the form of 'economic' cuts rather than 'imposed or mandated' cuts. As of the 3/3/20 close, $40 prices aren't seen until calendar 2024.

Capital expenditures in the US are being slashed across the industry and it is believed that it won't materially return until prices are above $50. Given current futures prices, $50 are no where to be seen. In that way, it will be a lack of capex, rather than production cuts that lead to supply reductions. Finally, a look at US Gulf Coast oil futures spreads to WTI via LLS/WTI futures. There was a small recovery towards the end of last week, but the next 6 month differentials are still decidedly discounted to WTI at Cushing. Gulf Coast delivered crude oil is also a first responder to demand destruction since export demand is also injured by the abrupt loss in global demand.

Inventory Recap Weekly Stats As mentioned earlier, the EIA reported a total inventory BUILD of 19.20 million barrels.

Year-to-date, this bring us to a Total Inventory BUILD of 16.50 million barrels. Inventory builds are expected to grow significantly going forward as demand remains under pressure.

Inventory levels are shown below, compared to prior year levels for the same week ending as well as against total storage capacity.

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