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Gasoline demand in the United States is weakest during the winter months, which Is certainly no surprise considering cold and sometimes hostile weather that limits road travel after the holidays. Yet, despite the seasonal decline in consumption, futures speculators are the most bullish they’ve been in seven months.
During the first two weeks of December, nearest delivered reformulated blendstock for oxygenate blending futures traded on the New York Mercantile Exchange settled above $1.50 gallon and at 110% of the $1.3930 2016 average through December 15 every session, putting the value at a spring premium–a time of year when the gasoline contract typically sets the calendar year high. In 2016, the settlement high was established on May 24 at $1.6544 gallon.
Gasoline supplied to the primary market, which reached a record weekly high in June and is on pace to set an annual record high in 2016, remains strong late in the fourth quarter. The implied domestic consumption rate has slowed against year prior in late November, early December, when nearest delivered RBOB futures traded roughly 25cts gallon less. The lower price point in late 2015 was seen incentivizing demand.
However, while the domestic demand rate has eased from mid-year highs, export demand has grown sharply, offering an outlet for strong production at US refineries. Gasoline export activity expanded in the second and third quarters, data from the Energy Information Administration shows, and surged to a 1.131 million bpd weekly record high in early December.
Much of those exports have been shipped to Mexico, where growing domestic consumption joined refinery constraints and outages to spur the demand for US barrels. Mexico is gradually lifting restrictions on imports, with the government to end price controls in northern Mexico in April 2017, which would aid US refineries that are producing well above their historical average.
The abundance of US crude oil has been a boon for the US refining sector, boosting margins. The gasoline crack spread, which subtracts the cost of crude from the gasoline price, held below the strong margins experienced in 2015 in 2016, as crude prices advanced relative to gasoline and, in large part, to sharply higher gasoline inventory.
Yet, strong gasoline demand and an expected quicker pace of economic growth coupled with an improving US labor market supported a strengthening crack spread in December. Anticipation for a tighter global oil market in 2017 as agreements by the Organization of the Petroleum Exporting Countries and several non-OPEC oil producing countries to reduce production kicks in has also bolstered gasoline values.
World crude values crested above $50 bbl early in the fourth quarter as OPEC oil ministers shuttled between member countries to secure commitments for a production cut after two years of global oversupply that had cratered oil prices and decimated many oil-dependent economies. Amid the long courtship, which began in early August, global oil prices rallied and sold off based on the latest newswire headlines and monthly production data until an agreement was reached on November 30 by OPEC and a companion pact on December 10 by several non-OPEC producing nations.
Effective January 1, OPEC agreed to cut 1.2 million bpd in their crude production through June 2017 and non-OPEC producers agreed to reduce another 558,000 bpd of output that, if adhered to, is seen balancing the market in 2017. This expectation has turned market sentiment bullish, and not only supports crude prices but also gasoline. A look at the forward curve suggests RBOB futures will take out the 2016 high on the spot continuous chart in 2017, with the May contract trading just under $1.80 gallon in mid-December.
While this explains the spring-like premium in December gasoline prices, it doesn’t mean seasonal features have disappeared. The market is in contango through May 2017, a market structure in which nearest delivered futures trade at a discount to deferred delivery, which is consistent with gasoline’s seasonal cycles. Moreover, the discounts in the calendar spreads at the front end of the forward curve are widening, illustrating gasoline’s weakest season during the first quarter.
There are times when the seasonal pattern fails to materialize, which happened in the second quarter 2016 when the front end of the forward curve failed to move into backwardation, a market structure in which futures nearest to delivery trade at a premium to deferred delivery. An oversupplied gasoline market, especially along the East Coast, tamped down the typical summer premium in nearest delivered futures. A modest backwardation compared with historical spreads in contracts nearest to delivery didn’t take hold until late in the driving season when summer contracts moved into a premium against fall delivery. The front end of the curve again widen in September and briefly in early November amid the outages on the Colonial Pipeline’s main gasoline line.