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OPEC Reference Basket
In June, as the 2Q12 came to a close, the OPEC Reference Basket continued its quarter-long declining streak for the third consecutive month to settle below $100/b for the first time in a year and a half. The drop in the value of the Basket in June was a significant 13%, the highest month to-month decline since the 22% drop back in December 2008. Beside a gloomy economic picture, particularly in the Euro-zone, the main factors driving down the Basket value were speculators who increasingly sold off long positions and abundant crude oil supplies. A month-long series of headlines about weak economic data from China and the US indicating that economic worries are not limited to the Euro-zone also shaped bearish market sentiment, prompting investors to massively liquidate positions to limit exposure. Similar to the previous month, accumulated long positions continued to exit the market significantly over the entire month of June in both main futures markets through large-scale sell-offs that have signaled growing weakness in the crude oil markets.
In June, the OPEC Reference Basket fell to an average of $93.98/b, the first time it reached a level below the key $100/b since January 2011. The Basket lost a hefty $14.09/b or 13% compared to the previous month, which is the highest decrease since the $11.16/b decline three and a half years ago. Nevertheless, for the 1H12, the Basket averaged $112.07/b, which was $5.40/b above the same period in 2011. The values of all Basket components diminished significantly in June, with Saharan Blend, Es Sider, Bonny Light and Girassol falling by $15.31 to an average of $96.09/b, down by a hefty 13.75% for the month. Meanwhile, Middle Eastern crudes Murban and Qatar Marine, along with Latin American Basket components like Ecuador’s Oriente and Venezuelan Merey, dropped by around 12% to $95.81/b and $88.37/b, respectively.
The remaining Basket components — namely, Arab Light, Basrah Light, Kuwait Export and Iran Heavy — also lost 13% of their value in June to end at $93.24/b, $14.02 lower compared to the previous month. Asian or Dubai/Oman related Basket components suffered the least deterioration over the month. They were supported by a relatively stronger sour market in the region. The strength in Dubai was seen as its market structure has remained in backwardation despite plenty of factors to the downside. Strong fuel oil cracks coupled with continuing Chinese buying ahead of a significant capacity expansion, as well as stock building due to low outright prices, has supported the sour market.
European Basket components, African crudes and imported Middle Eastern sour crudes were all pressured by the vast deterioration in the outright Brent prices, as well as by the flip in Brent market structure into contango for the first time in almost a year. Sweet crudes were weakened by lower European demand amid lower refinery runs and low naphtha cracks, while sour benchmark Urals was supported by a steep decline in loading schedules, particularly in the Mediterranean. In the USGC, a higher supply of medium sour crudes over the month diluted the value of related imported crudes. Medium sour crudes have become quickly available from the restart of all offshore Mars platforms and the unexpected shutdown of the newly commissioned and largest US refinery, which largely ran medium and heavy sour crudes. Meanwhile, the relative improvement in USGC light sweet crudes (LLS) has positively affected the overall prices of the Latin American Basket components. Following the start-up of the Seaway link, higher inflows of light sweet barrels from the landlocked Cushing hub were likely behind the earlier LLS’s weakness relative to Brent; however, the link may have recently begun to pump heavier barrels, which has in turn relieved some of the pressure on regional light grades. On 10 July, the OPEC Reference Basket improved to $96.43/b, $2.45 above the June average.
The oil futures market
In June, both crude oil futures contracts, ICE Brent and Nymex WTI, slipped further to multi month lows as both shed over 13% of their value, the highest month-to-month reduction since the 25% reached during the global financial crises in late 2008. Compared to the end of the 1Q12, the 2Q ended with the values of both front-month contracts down by close to 25%. In June, Nymex WTI front-month contracts declined by $12.31 on top of a $11.49 fall since the beginning of the 2Q, the start of a decline streak, to accumulate a hefty $23.80 in losses over one quarter, erasing the previous two consecutive quarters’ gains. Meanwhile, ICE Brent front-month losses over June and the 2Q were much bigger, with a $14.36 and $28.62 decline, respectively. Several factors not much different from the previous month led to this deep reduction in futures prices. The worsening economy, predominantly in the Euro-zone, and speculators increasingly going less long in their positions, as well as the signs of a global crude oil stock build, were the main factors driving prices down. Concerns about Europe's debt and economic crisis revived again in June when it became clear that Spain and Cyprus would have to be bailed out. Downgrades of 28 Spanish banks by Moody’s quickly followed.
This, along with poor US jobs data and a slowing Chinese manufacturing output, shows that economic worries are not limited to Europe, which in turn sparked broad consecutive sessions of market sell-offs in both equity and commodity markets. HSBC’s preliminary China Manufacturing PMI fell further in June, raising fears of a downturn in China’s economic activity, while a cut in the interest rate for one-year loans by the Chinese central bank hinted at Beijing feeling the need to increase stimulating measures. Moreover, the cutting of managed money net long positions continued over the month on both futures markets. CFTC data showed that Nymex WTI net long positions fell to their lowest levels since September 2010, dipping 9% from the previous month. ICE Brent net long positions declined the most — by a stunning 49% — since late May, according to ICE data. Given recent developments in outright prices, the fact that money managers who were long in the market ran for cover may not come as much of a surprise; but a sell-off on such a large scale is sure to have infused more bearishness in the market. Moreover, US Energy Information Administration (EIA) figures showed that US stocks increased by around 170,000 b/d over 2Q and available Chinese customs data has hinted at implied stock builds of more than 250,000 b/d over the same period. These stock builds, which have come amid lower refinery runs, lower US imports of light sweet crude, economic run cuts in Europe and higher Libyan production, have contributed greatly toward the collapse of the two Atlantic Basin crude oil futures in June.
The Nymex WTI front-month averaged $84.41/b in June, the first time since October 2011 that it was less than $90/b, down 13% from the average in May. The ICE Brent front-month also fell by 13% or $14.36/b to end the month at an average of $95.93/b, the first time it fell below the key $100 in the last year and a half. Compared to the previous year, the front-month WTI year-to-date (1H12) average stood almost at the same level as in the 1H11, at $98.21/b, while ICE Brent was higher by almost 2% at $113.63/b. Both contracts were below the psychologically significant $100/b price in June. On 10 July, the crude oil futures prices for Nymex WTI and ICE Brent improved to $83.91/b and $97.97/b, $1.50 and $2.04 above the June average, respectively.
As pointed out earlier, data from the CFTC showed that on average, speculators further reduced their net long positions in US crude oil futures and options positions in the month of June, but to a lesser extent than in the previous month. Hedge funds and other large investors liquidated their net long positions on the Nymex by 12,567 contracts to 124,017 lots, a decrease of over 9%. During the 2Q12, net long positions were cut by almost 50%. The data showed that almost all the decrease was attributed to the massive liquidation in long positions contributing to the sharp drop in crude oil prices over the month as indicated earlier. Compared to the 1Q12, outright longs were down by a hefty 84,394 lots, dropping 32% by the end of the 2Q. In ICE Brent crude oil futures, speculators reduced their net long futures and option positions significantly — by a hefty 49% — during June to 41,415 contracts; half of the speculative net long positions have been liquidated as the downward pressure on the Brent market deepened this month. In the two exchanges, the combined reduction in net long positions was 52,110 lots or almost 25%, reaching 165,432 contracts. Long positions were down by 105,099 contracts to 302,175 lots.
The average daily traded futures volume during June for all WTI Nymex futures contracts increased by about 5% or 26,629 lots to average 590,244 contracts. Open interest decreased moderately by 8,600 lots to 1.43 million contracts, on average. In ICE Brent, overall traded volume increased by a hefty 21% or 125,396 lots to 713,694 contracts, and open interest also decreased by 5% to reach 1.18 million lots.
The futures market structure
The structure of the Nymex WTI market remained almost unchanged from the previous month’s contango, with the first month versus the second month time spread averaging around 31˘/b in June compared to 33˘/b in May. Meanwhile, despite the reversal of the Seaway pipeline last month, Cushing stocks continued to expand over the month, which may have prompted pipeline operator Enbridge to announce that it expects to complete the 400,000 b/d expansion of the Seaway pipeline by late this year. The 150,000 b/d link, which pumps crude from the Cushing storage hub to the US Gulf Coast, was originally slated for expansion by 1Q13; but growing Cushing inventories may have rushed the pipeline operator’s plans. Meanwhile, from the 2nd half of June onward, the ICE Brent market structure flipped into contango for the first time since August of last year. Stock builds in the Atlantic Basin, lower US sweet crude acquisitions, economic run cuts in Europe and rising Libyan crude output, coupled with a worsening economy and the subsequent fall in outright prices, all pushed the once-solidly backwardated ICE Brent market structure into contango. The average spread between the first and second month contracts during the 2nd half of June was at a contango of 15˘/b compared to a backwardation of 55˘/b in May.
The transatlantic (Brent vs. WTI) spread further continued its narrowing trend in June by $2.05 in favour of WTI to $13.52/b. This was more in line with the significant weakness in the Brent market rather than a consequence of the Seaway pipeline reversal. As noted above, despite the reversal of the Seaway pipeline, Cushing stocks continued to expand over the month on the back of abundant US and Canadian shale and tar sands output, but at a slowing pace.
The sweet/sour crude spread
In the physical crude oil market, light-sweet/heavy-sour differential movements were mixed once more during June. While they dropped sharply in Asia, the differentials in the US widened and were stable in Europe. In Asia, the gasoline and naphtha cracks tumbled while fuel remained healthy, resulting in a sharp drop in the light-sweet/heavy sour differentials represented by the Tapis/Dubai spread. The average of fuel oil cracks improved over $1.00/b in June compared to May levels. Meanwhile, Asian middle distillate cracks also improved, but proved insufficient to bail out the regional sweet complex. Moreover, the current weakness seen in the Brent market resulted in a premium in the Brent/Dubai EFS spread dipping to a multi-year low, causing the arbitrage window for crudes from the West to open wide. This exerted downward pressure on regional sweet grades, especially in light of Dubai’s sustained strength. Asian refiners have currently been able to source Mediterranean light-sweets in favour of West African crude as spreads for these have reached record discounts to Brent recently. This, in conjunction with a change in US supply dynamics, has resulted in an abundance of West African cargoes which will likely be absorbed eventually by Asia. The Tapis/Dubai spread during June narrowed significantly to a multi-month low average of $5.83/b in favour of Tapis from the $9.88/b in May.
In Europe, the Brent/Urals spread widened marginally, reversing the previous month’s gains despite low refinery utilisation rates in Europe, which were pegged at below 80% and which kept crude demand subdued over the month of June. But Med-Urals was supported by the anticipation of almost 10% lower supply in July out of the Mediterranean outlet. Meanwhile, regional light sweet barrels had a very bad month with low naphtha cracks pressuring the complex and even pushing the values of some of the grades to discounts to Urals Blend. The Brent/Urals spread stood at $1.38/b, 32˘ wider than the previous month’s spread. Mid-month onward, the US Gulf Coast (USGC) sweet and sour grade spread, represented by the LLS/Mars spread, widened as sweet grades began to regain some strength over the month. Meanwhile, sour grades came under pressure from higher supplies.
Light sweet barrels managed to fight their way back from lows seen last month. LLS was last seen back at a premium to Dated Brent, following May’s brief stint at discounts to the North Sea marker. Following the start-up of the Seaway link, higher inflows of light sweet barrels from the landlocked Cushing hub were likely behind LLS’s weakness; however, recently the link may have begun pumping heavier barrels which has, in turn, relieved some of the pressure off regional light grades. On the other hand, heavier barrels have come under pressure from ample supply following the restart of offshore Mars platforms and significant delays for Motiva’s Port Arthur refinery expansion restart. The LLS/Mars spread stood at $3.78/b on average in favour of LLS during the 2nd half of June, more than $1.50 wider than earlier in the month.
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