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EIA Weekly Data: The EIA data on Wednesday September 29th surprised energy bulls with increases in Commercial Crude OIl Stocks of 4.6Mb (forecast was for a decline of 2.5Mb), an increase in Total Stocks of 10.9Mb (excluding SPR changes), an increase in US crude production of 500Kb/d as Offshore US crude production (recovers post the hurricanes), and Total Demand fell by 754Kb/d to 20.4Mb. We have been highlighting these potentials over the last number of issues and they all are now occurring. This should put a cold shower on the crude oil bulls and drive crude prices down below US$70/b in the near future to below US$60/b as we have been forecasting.

In detail:

• Last week 500Kb/d came back on and overall US production is now 11.1Mb/d, just below the 11.5Mb/d produced before the first hurricane closed offshore production. There are still 400Kb/d to come back on stream. Some of the production, approximately around  200-250Kb/d, may take some time to return as Shell announced that major infrastructure repairs are needed.
• Commercial Crude Oil Stocks rose by 4.6Mb on the week and would have risen by 870Kb more if not for net exports falling by 124Kb/d. Gasoline Inventories rose by 0.2Mb and Refinery Activity rose 0.6 points to 88.1% from 87.5%, as Gulf Coast refineries increased activity. This is now above pre-pandemic levels of 86.4%, this time in 2019. In the coming months we expect to see US crude oil production rising and reaching 12.0Mb/d as the drilling pace picks up sharply and much of the remaining shut in offshore production returns.
• Demand for all products fell last week. Total Product Demand fell 754Kb/d to 20.4Mb/d as consumption of propane and other oils fell. This compares to 21.2Mb/d consumed at this time in 2019 before the pandemic. Gasoline consumption picked up 502Kb/d to 9.4Mb/d (same as in 2019 at this time) while Jet Fuel Consumption fell 60Kb/d to 1.43Mb/d (1.5Mb/d consumed in 2019 at this time). Cushing Inventories rose by 0.2Mb/d to 34.0Mb compared to 56.1Mb last year and 40.7Mb two years ago.

This was a very bearish report and as we see more seasonal inventory builds in the coming weeks crude oil should fall over US$10/b during Q4/21.

Baker Hughes Rig Data: The data for the week ending September 24th showed the US rig count rose by nine rigs (rose nine rigs in the prior week). Of the total of 521 rigs working last week, 421 were drilling for oil and the rest were focused on natural gas activity. This overall US rig count is up 100% from 261 rigs working a year ago. The US oil rig count is up 130% from 183 rigs last year at this time. The natural gas rig count is up a more modest 32% from last year’s 75 rigs, now at 99 rigs. The Permian saw an increase of one rig (up five last week) to 260 rigs and is up 108% from 125 rigs last year at this time.

Canada had a rise of eight rigs (up 11 rigs in the prior week) to 162 rigs. Canadian activity is now up 128% from 71 rigs last year. There were 96 oil rigs working last week, up from 33 last year. There are 65 rigs working on natural gas projects now, up from 38 last year.

The material increase in rig activity over a year ago in both the US and Canada should continue to translate into rising liquids and gas production over the coming months once the impact of the hurricane/storm season is over. The data from the many companies and their plans for the rest of 2021 and forecasts for 2022 support this rising production profile expectation.

Conclusion:

We should see weaker crude oil consumption reports and weekly builds in Commercial Crude Stocks around the world as inventories rebuild to meet the winter 2021-2022 needs. Normal fall season builds are 2-3Mb per week. If we see any increases over 5Mb in any week, that would put meaningful downward pressure on crude prices. The current spike in prices was speculative in nature and is not sustainable. Bulls may see this week as an aberration but if we see repeats of builds and strong builds over 2-3Mb/week, then crude prices are very vulnerable. Just remember how Lumber rose from US$441 in October to US$1733 in May 2021 and then fell to US$448 in August when demand waned as high prices killed off demand.

Bearish pressure on crude prices:

1. The Mu variant is following the deadly Delta variant and is gaining victims around the world. This variant started in Colombia and now is impacting 39% of all people infected with the pandemic disease. This variant is now seen in more than 40 countries and in 49 US States. A London immunologist at the Imperial College in London says “that the early research indicates it appears to be highly effective at evading immunity”. Delta caseloads are growing around the world. Just note the challenges faced in Alberta. Formal vaccine documents are to be the norm in Canada going forward. In the US the death rate is now back over 2,000/day and over 688K deaths have been reported. Worldwide the death count is now 4.75M.
2. The Saudis are pricing crude oil for October delivery to Asia at US$1/b lower than previous months, as the fight for market share in the patchy economies in the area continues. China demand is especially sloppy. China plans on selling 7.4Mb from their state crude reserves on September 24th to cool off prices. Russia has announced that they plan on adding nearly 7% in additional production in 2022. OPEC meets next Monday (October 4th) and plans to approve their 400Kb/d increase in production for November. However major consuming nations are pressuring them to increase production even further as high prices are negatively impacting their economies. The King and Crown Prince are being pressured to increase production by the Presidents of the US and China and we don’t see the Saudis ignoring this pressure. OPEC countries like Saudi Arabia, Iraq, Kuwait and the UAE together could add 3-4Mb/d quite quickly if they want to.

Bullish pressure on crude prices:

1. Forest fires and the lack of wind in the North Sea and other areas have crippled wind power from onshore and offshore facilities, cutting off much of this renewable electricity supply. This has driven natural gas prices to over US$20/mcf in Europe and over US$30/mcf in parts of Asia (NYMEX today US$5.62/mcf – AECO C$2.48/mcf). Prices for natural gas should drift over the near term but should exceed recent highs if this winter is colder than normal and storage is low. Goldman Sachs sees Brent rising another US$10/b in Q4/21 to US$90/b.
2. Some OPEC countries like Nigeria, Libya and the Congo are having problems keeping crude oil production up due to their lack of funding for operations.
3. The UK has a shortage of energy product delivery drivers and is now opening its border to 5,000 EU accredited individuals. In addition they plan on utilizing the military logistics system to increase deliveries. Hoarding has occurred as people worry about running out of fuel for their vehicles. Recently a purchase limit of 30 pounds worth of petrol has been implemented by many petrol stations.
4. Russia has held back supplies of natural gas to Europe as they pressure Germany to open the new NordStream 2 pipeline. The Greens and the Free Democrats, planning to join the new Government, are against the project. Opening the pipeline should end the shortage of natural gas on the continent. Once the political maneuvering is over this should start up.

CONCLUSION: 

WTI has risen to US$75.48/b due to the rising price of natural gas, the shortage of electricity in many OECD and developing countries, and massive speculative interest. It appears that high prices again are the solution for high prices as was seen in Q2/08 when crude spiked to US$147/b and then fell to US$34/b in Q1/09, and in April 2020 when prices went negative and ended the rout in crude prices, recovering to US$42/b just a few months later. Many industrial plants in China have been closed due to the high cost of fuel and the Government’s plan to lower emissions in the Beijing area for the upcoming winter Olympics from February 4th to the 20th. Clean air is needed for the event and China wants to show it is making progress on its climate initiatives. This will dampen China’s consumption of fossil fuels going forward. Supplier plants producing items for Apple and TESLA have suspended production. Supply chain issues are getting worse.

A breach of US$70/b is likely before the end of October. The health of the largest world economic zones (the US, China and the EU) and how large the seasonal crude oil storage builds are will impact how much crude prices will retreat. During Q4/21 we see WTI prices breaching US$60/b. This may sound heretical to energy bulls but just remember that the pendulum does swing and that inflection point is here now. Proof is evident from today’s EIA report.

Energy Stock Market: The S&P/TSX Energy Index currently trades at 144 as natural gas stocks rose sharply over the last week following the whirlwind of gaping natural gas prices in the spot market.

We expect that as crude oil prices decline, the recent low for the Energy Index at 109.72 will be breached. The key level to watch is US$61.74/b. If this occurs in Q4/21 then the Energy Index should head towards 100. We recommend caution, lowering exposure and holding cash for the next low risk entry point. The energy and energy service companies with the most downside are those with stretched balance sheets and have missed production, revenue or EBITDA forecasts. Take profits on decent up days and raise cash.

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The Evergrande Chinese property developer insolvency problem appears to be the catalyst for the overall stock market decline in China and many other countries around the world. The US$305B of debts that they can’t pay has large portions owed to foreign investors and lenders. Interest payments due last week were not paid and after the 30 day grace period is over it will  push the entity into bankruptcy or Beijing controlled restructuring. The size of this problem is massive as they were building 1.6M apartments and homes that they don’t have funds to finish and as well, have taken large deposits from buyers. Protests at company offices are picking up by irate home buyers and suppliers. In any year they employ over 3M people in their construction activities and directly employ over 200,000 people. This could spiral out of control and become the ‘Lehman’ event to start a new financial crisis. Banks and other financial institutions as well as local governments are very vulnerable. Beijing is in the process of setting up protective barriers to contain the damage this could do to the real estate wealth focus of the country.

Other market pressures are the debt ceiling battle in the US, rising bond yields which lower the value of the stream of earnings, the problem of Congress’s approval of the two stimulus bills and the planned 40 new or increased taxes to pay for the social infrastructure’s US$3.5T price tag. This is very politically tough as the Republicans won’t support the social infrastructure Biden proposal and some Democrats are also opposed.  Liberals and progressives want a bigger package and moderates want to see it lower and paid for. The next few weeks could see defeats which could rock the financial markets.

We cover this in detail in our Schachter Energy Report. Over the next few months any of these events could lead to a domino effect of over leveraged companies getting into trouble and financial markets declining materially. The Dow Jones Industrials Index now at 34,460 could fall to below 30,000 in Q4/21 and to <25,000 in Q1/22. We have already seen two big down days of more than 500 points for the Dow Jones Industrials Index and expect many more in the coming months. Yesterday the Dow fell 1.6% or 569 points while the overvalued NASDAQ fell 2.8% or 423 points.

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