The Guest Blog

Schork Oil Outlook: Wall St. Loves Crude — Not Refiners

Stephen Schork, Editor, The Schork Report

Energy prices were strong yesterday — and how! The liquids popped after MEND* cancelled its ceasefire on Nigerian oil production facilities.

Keep in mind that MEND can do, and has done, serious damage in the past. Meanwhile natural gas prices rose after a snowy weekend in key market areas. As far as today goes the dollar’s path could build or wipe out yesterday’s gains.
*(Note: MEND = Movement for the Emancipation of the Niger Delta, one of the largest militant groups in the Niger Delta region of Nigeria.)

In the January 20 issue of , we previewed personal gasoline consumption expenditures. At the time, we said, “The bottom line is that we believe much of the recovery in PCE on gasoline and energy goods has already taken place. Thus, the next BEA release should be approached with caution. However, this may not prevent the bulls from running prices beforehand.”

On Friday morning, electronic trading had pushed natural gas prices 2.6% above Thursday’s close before the pit even opened. When the PCE numbers were released at 8:30am ET, which reported a 2.0% YoY rise in total expenditure instead of the 1.8% predicted by analysts, crude prices kneejerked 1.2% higher within half an hour.

By the end of Friday, natty and crude dropped to their lowest closing values since December 8 and 21, respectively.

Part of the drop in natural gas came from the EIA’s monthly reports that signaled high production, which discussed yesterday, but why did ostensibly bullish PCE numbers, 0.2% higher than expected, push prices lower?

Consider the expenditure on gasoline, which rose 16% from Q2 to Q3 2009 while prices at the pump dropped 5%. That’s bullish — as the scatter plot in today’s issue of illustrates, lower prices at the pump should lead to lower expenditure. Instead, for Q3 2009, consumers began spending disproportionately well.

The latest release seems to continue in this bullish vein, stating that expenditure rose 9.4% in Q4 to $354.9 billion. However, retail prices rose 4.23% from 2.55 to 2.66 over the same period. So we got a smaller increase despite the fact that prices rose.

Today’s issue of demonstrates consumer behavior in response to prices at the pump. The first quarter of 2009 was understandably weak for consumer confidence and retail prices. The second quarter saw prices increase 29% from 2.097 to 2.695, but consumer expenditure barely budged.

This lack of demand pushed prices 5% lower for the third quarter. By this time, the press was touting an economic recovery and instead of dropping 4.93% as forecast, consumer expenditure for Q3 rose 16.11%.

Q4 Bullishness; Bad Fundamentals

For quarter four, spending is strong, rising 9.40% or $30.50 billion. From our regression, we propose $12.93 billion of the increase came from seasonal and pricing factors. Only the remaining $17.57 billion can be placed upon discretionary spending. Compare that to the $45 billion increase in Q3, none of which can be placed on an increase in price (because there was none) and wholly on increasing quantity.

Thus we consider Q3’s gasoline expenditure figures very bullish and Q4 as mildly bullish to neutral. In the longer term the prospect is distinctly troubling for gasoline expenditure. Consider that expenditure on transportation services continued climbing, increasing $3.1 billion to $309.40 billion, just $500 million below its all-time-high. Compare that to gasoline expenditure: $106.5 billion below its Q2 2008 all-time-high.

What’s worse, spending on motor vehicles actually dropped 4%, from $331.7 billion for Q3 to $318.50 billion in Q4. Put simply, people are spending less on their car and more on the bus.

December’s personal income and spending figures compound this theory.

According to yesterday’s release by the BEA, personal income increased 0.4% month on month, beating analyst expectations of a 0.3% increase. However, personal spending increased by 0.2%, underperforming analysts’ 0.3% forecast.

On the breakdown, it becomes clear that consumers are earning more but reigning back spending and saving more. December saw salaries increase $6.3 billion, but PCE in December only grew 0.2% in comparison to November’s 0.7% growth. On the flipside, personal saving is up 5.5%, from $506.3 billion in November to $534.2 billion in December.

No one is denying that the recovery has begun, and began in late 2009. But the recovered economy will be very different from the one we had in 2007. Much gasoline expenditure has been wiped off the map and is not coming back.

Without this end demand for product, crude prices are fundamentally crippled on the upper bound. Whether the bulls realize that (and yesterday’s price action indicates they don’t) is another matter.

More to the point, the bulls probably do realize how bad the fundamentals are for crude oil, but they probably just don’t care. Yesterday was the first trading day of the new month, so Wall Street wanted to get back into the game, despite the news from the BEA, not to mention the release of Exxon’s lousy Q4 downstream numbers… the company’s U.S. refining operations lost $3.1 million a day from last October through December.

We will have more on this topic in tomorrow’s issue of , but bottom line, the world’s largest publicly traded oil company reported a decrease in Q4 2009 earnings of 23 per cent from the Q4 2008. According to Exxon’s news release… “Lower refining and fuels margins and lower natural gas realization were partly offset by higher crude oil realizations.”

How many more U.S. refineries have to close?


Stephen Schork is the Editor of and has more than 17 years experience in physical commodity and derivatives trading, risk systems modeling and structured commodity finance.

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