Most Of Last Week's Crude Oil Drawdown Went Right Into Storage

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Includes: BNO, DBO, DIA, DNO, DTO, DWTI, OIL, OLEM, OLO, SCO, SPY, SZO, UCO, USL, USO, UWTI
by: PLM Investments

Summary

Last week, crude oil stocks went down by 4.9M barrels.

But gasoline stocks went up by 1.4M barrels and distillate product stocks went up by 1.8M barrels.

65% of the crude drawdown effectively went back into product storage.

Last week, oil investors cheered the big 4.9M barrel reduction of crude stocks, leading to single-day 5% jump in the price of oil (USO, OIL, SCO, BNO, DBO, DIA, DNO, DTO, DWTI, OLEM, OLO, SPY, SZO, UCO, USL, UWTI).

At the same time, gasoline stocks went up by 1.4M barrels and distillate product stocks went up by 1.8M barrels. Total product stocks were up by 3.2M barrels. Crude oil stocks are at an all-time high.

That means 65% of the crude drawdown effectively went right back into storage on the product side.

How should we interpret this weekly data?

I took a look at a few crude oil and product storage relationships and their history, and analyzed them. I wanted to see what I could glean from weekly storage change data since everyone makes a big deal about the weekly numbers. That includes traders playing the markets.

I found that a plot of the combined weekly crude oil, gasoline, and diesel fuel stocks change was revealing. (Note that there are other components I could have included but these are the largest.) Here it is, obtained using last week's EIA data.

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Notice that the weekly change is actually too variable to reveal much information, averaging nearly zero with a very small positive slope over time.

As an alternative, I also plot the 3-month moving average, which is much more interesting. We see that the moving average also fluctuates around zero but it occasionally has a noticeable, revealing feature.

In particular, extreme positive excursions only happen a couple of times: during the Great Recession around 2009 and in 2015-2016. Also unusually, we are apparently in the midst of a double large-amplitude spike.

Note that there is no spike following the recessions of 1990-91 and 2001.

While the spike of the Great Recession is likely due to economic slowdown, the current spikes could be due to a combination of overproduction and slowdown. We won't really know until this pattern works itself out and we better understand the current situation. Nevertheless, its interesting that this is a very rare event, only seen a couple of times in the last 25 years and not during the earlier recessions.

For comparison, I also show the crude stocks by year below. Here we see a lot of variation and we would be hard-pressed to identify recessions or other events without their foreknowledge, except for the present oversupply.

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Note that crude oil stocks are currently more than 30% above their 5-year average. This is much more than any time in the last 20 years.

The point of all this discussion is to indicate that we are in largely uncharted territory when it comes to the current crude oil situation.

We are in the middle of a very rare event. Don't expect anyone to have definitive answers as to the meaning of the weekly situation or, longer-term, how these markets will play out.

On the other hand, these curves do provide some clues as to what needs to happen before we return to normalcy.

First, it will take historic negative changes to total stocks, as indicated by my first plot, either in amplitude or duration to reduce our extreme levels to their prior averages. Second, with the size of the current extremes, this normalization will take a long time, especially if the current global struggles are prolonged and we keep accumulating crude oil, gasoline and diesel stocks.

I'm expecting these curves to adjust slowly to their pre-glut levels in a timeframe on the order of years. I view it as very unlikely that some extreme shock will reduce crude stocks in a short time span.

If you're investing in oil, be sure to read between the lines and do a lot of digging. For a long time, this will be a tough market to make a big strike.

Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.

I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.