UGA: Time To Build A Bullish Position

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About: The United States Gasoline ETF, LP (UGA)
by: Cristian Docan
Summary

According to the EIA, US gasoline storage build accelerated during the week, whereas gasoline cracks reached a three-month low.

Net spec bets on gasoline future contracts dipped for the third consecutive week, amid robust long liquidations.

The start of the summer driving season, implying accrued gasoline demand and stabilizing crude oil markets will likely contribute to sustain UGA shares.

Investment thesis

The pullback of the United States Gasoline Fund LP (UGA) seems to come to a half, after the strong correction witnessed in crude markets. While gasoline stocks remain in a slight surplus and net speculative bets continue to decline, stabilizing crude oil markets and accrued gasoline demand will enable UGA shares to recover.

Source: Bloomberg

UGA - United States Gasoline Fund LP

UGA offers exposure to gasoline prices by holding near-month futures on RBOB gasoline traded on the NYMEX. The ETF is structured as a commodities pool, providing a decent choice for gasoline exposure. The Fund's objective is to replicate changes in percentage terms of the price of the Unleaded Gasoline futures contract on the Nymex.

As of today, UGA's top holdings are as follows and the Fund replicates closely RBOB's daily performance:

Source: Bloomberg

Source: Nasdaq

Nevertheless, the main downside of UGA is its high concentration on front-month gasoline future contract, which can incur heavy roll costs and its high expense ratio of 1.12%.

Petroleum stocks and cracks

According to latest EIA report, US gasoline inventories advanced slightly, up 1.39% (w/w) to 234.1m barrels for the week ending May 31, 2019. With this climb, gasoline seasonality establishes in a slight surplus of 1.8% or 4 133k barrels compared to the five-year average, but accelerates its deficit on a yearly basis, down 2% or 4 885k barrels. While these developments are slightly bearish for the gasoline complex, UGA dipped robustly, down 8.37% to $28.36 per share on the corresponding period.

Source: US Stocks of Crude Oil Report and Petroleum Products - EIA

Since then, the WTI-gasoline crack spread plunged significantly over the May 31 - June 8 period, down 13.43% to $20.36 per barrels, establishing in the lower part of the horizontal range initiated in March 2019.

Source: Quandl

Besides and despite weak refining utilization rates, the recent refining capacity ramp, continues to weigh on gasoline cracks and UGA share.

Source: EIA

On the other side, American gasoline balance weakened considerably for the week ending May 31. Indeed decreasing finished motor gasoline exports, down 5.3% (w/w) to 679k bpd and ramping US imports, up 0.74% (w/w) to 1 095k bpd contributed to the depreciation of RBOB and UGA, whilst the advance of US net production of gasoline, up 1.1% (w/w) to 10.11m bdp provides additional headwinds to the gasoline complex.

Source: EIA

Speculative positioning

Source: CFTC

On the May 28- June 4 period, RBOB net speculative positioning on Nymex future contract, continued to decrease, down 2.73% (w/w) to 76 904 contracts, latest Commitment of Traders report published by the CFTC shows.

This third consecutive dip is attributable to similar forces. Indeed, during the week, speculators reduced long bets, down 3.85% (w/w) to 131 207 contracts, whereas shorts liquidations partly offset that move, down 5.39% (w/w) to 54 303 contracts. In the meantime, UGA stabilized in the end of the week, but the strong correction witness lately propelled the ETF 10.53% downwards to $27.75 per share.

Since the beginning of 2019, net spec length dipped moderately, down 7.23% or 5 993 contracts, while UGA YTD performance is positive, up 0.72% to $27.95 per share.

Fundamental developments

Since the beginning of May 2019, UGA witnessed a strong pullback, following dipping crude oil prices that reduced gasoline spreads by a whopping 42.69% to $9.53 per barrels. While crude markets seems to have stabilized in the previous week, accrued volatility is expected ahead of OPEC meeting and calls from Saudi Energy Minister to extend global output cuts will likely sustain UGA shares.

Besides, on the bullish side, the announcement on Friday that US and Mexico have reached a signed agreement to avoid trade tariffs and work towards reducing illegal immigration coming from Mexico, is also providing tailwinds to the gasoline complex

Furthermore, with the start of US driving season, the uptick in gasoline demand should offset latest US regulatory announcement that enables gasoline stations to sell blends containing up to 15 percent corn-based ethanol.

Meanwhile, the Gasoline and Brent Future Curve continue to evolve in a backwardation pattern and both slopes increased on nearby maturities indicating that the market might tighten in the coming future.

In this context and despite excess gasoline inventories and weakening net speculative positioning, I expect a rerating of UGA shares, given stabilizing trade relations with Mexico and seasonal gasoline demand boost, amid summer driving season start.

I look forward to reading your comments.

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.