History Shows Oil Stocks Aren't Done Rising Yet

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Includes: BNO, DBO, DNO, SCO, UCO, UHN, USL, USO
by: Jesse Moore

Summary

U.S. Crude oil stocks have been rising at record rates.

The recent rally in global crude prices has no underlying fundamental reason.

West Texas Intermediate will be the worst hit oil benchmark.

As crude stocks continue to fill up in the United States, oil prices have begun to climb out of their lows. Despite consistent gains in stock levels, and one of the largest weekly inventory builds to date at the end of February, the crude price has continued to climb. Many speculators, including this author, have a view that prices have yet to see a bottom. I would be happy to be wrong in this case, and the logic that rising stock builds should contribute to lower prices does not seem to hold any ground of late. As stocks rise higher and higher above record storage levels, the oil price must eventually succeed and start to decline, or crude stocks must begin to fall. Let's have a look at what history shows.

Since 2009, we have not seen a single example of stocks decreasing in April and May. June and July often signify the start of oil withdrawals. This year, however, February saw stock levels rise by a record amount in the final week. As stock builds throughout March are often worse than stock builds throughout February, the trend of rising stocks is likely to continue, perhaps at a rate that exceeds 2015's record monthly build of 35 mn barrels.

Source: EIA and Author's Work

If we go back to the year 2000, April and May are the two most likely months to have a stock build. Conversely, July usually invokes a stock decline, with a decrease in 14 out of 17 years. The amount of draw varies widely from year to year, with a range of 0.2 mn barrels in 2002 to nearly 20 mn barrels in 2013. Investors pointing toward a stock decline in January as a sign of dropping production would be wrong. January is one of the most likely times of stock declines followed by several months of large increases.

Conversely, February's stock build is an omen for the next 3 months. A stock build over the month of February resulted in large consecutive stock builds in March, April, and May a whopping 93% of the time.

Source: EIA and Author's Work

Rising U.S. Oil Imports

As U.S. oil imports are climbing from their November 2015 lows, importers continue to take international crude over domestically produced WTI. This has a lot to do with the design of Gulf Coast refineries, which cannot process the light sweet crude that comes from the shale industry, and the pricing structure the Saudi's have taken to undercut WTI. Most of the ramp-up in imported oil demand is coming from overseas purchases and coincides with Saudi Arabia's strategy of maintaining market share.

What Does This Mean For Oil Prices?

Oil stocks will continue to rise as Saudi Arabia continues to undercut WTI purchases, and Gulf refineries struggle to refine the light sweet oil from shale. Ever rising oil stocks will eventuate in a decline in the price of WTI, dragging down the price of Brent as more U.S. crude is shipped overseas. As fellow author Gary Bourgeault points out, U.S. Oil Fund (NYSEARCA:USO) investors will get crushed if this event plays out. There continues to be no underlying fundamental support for a rise in the oil price, and I continue to hold spare cash for the next oil crash event when the rally is sold off.

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.

Additional disclosure: 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.