by Bill O’Grady, Thomas Wash, and Patrick Fearon-Hernandez, CFA | PDF

Oil prices have been volatile in front of the OPEC+ meeting.

(Source: Barchart.com)

Commercial crude oil inventories fell a whopping 12.5 mb when compared to the forecast build of 1.5 mb.  The SPR fell 1.6 mb, putting the total draw at 14.1 mb.

In the details, U.S. crude oil production fell 0.1 mbpd to 12.2 mbpd.  Exports rose 0.4 mbpd, while imports rose 1.4 mbpd.  Refining activity rose 1.4% to 93.1% of capacity.

(Sources: DOE, CIM)

The above chart shows the seasonal pattern for crude oil inventories.  After accumulating oil inventory at a rapid pace into mid-February, injections first slowed and then declined.  As the average line shows, we are nearing the seasonal draw period, although that pattern has become less reliable with the U.S. exporting crude oil.

Fair value, using commercial inventories and the EUR for independent variables, yields a price of $59.17.  We will wait to see if OPEC+ (see Market News below) moves to push prices higher by cutting output.

Since the SPR is being used, to some extent, as a buffer stock, we have constructed oil inventory charts incorporating both the SPR and commercial inventories.  With another round of SPR sales set to happen, the combined storage data will again be important.

Total stockpiles peaked in 2017 and are now at levels last seen in 2002.  Using total stocks since 2015, fair value is $94.63.

Market News:

• The IEA notes that investment in fossil fuels has stalled, while investment in clean energy is rising steadily. If this trend continues, it means oil and natural gas prices will likely rise in the future.
• As we noted earlier this month, WTI Midland will now be part of the Brent basket. As U.S. oil becomes increasingly used globally, quality issues are cropping up which may affect export capacity.
• The debt ceiling situation does appear to be resolved. The proposed arrangement hammered out by the White House and the Speaker will still need to pass Congress, but we suspect it will.  As the details emerge, it does look like some easing of permitting did make it in the final bill.  Both the fossil-fuel and clean-energy industries are plagued by permitting  Of course, both sides want to gain permitting approval while restricting the other, but such outcomes are rare in democracies.  It is worth noting that the debt deal didn’t actually address transmission lines and pipelines, which will help its passage but neglects the key problems with streamlining permitting.
  • Last year, coal was the largest net contributor to power generation.
• Methane is considered one of the most potent greenhouse gases, and it is also the key component of natural gas. There are increasing regulations designed to reduce methane leaks which tend to lift production costs.  There are now efforts to use new technology to measure and cap unwanted methane emissions.
• OPEC+ meets this week. Last week, the Saudi oil minister warned oil speculators not to be short going into the meeting.  Initially, the market rallied, but as reality set in, it’s becoming clear that the cartel is facing internal divisions as Russia is taking market share from the other oil producers, especially in the Far East.  We will be watching to see how the cartel handles Russian output.
  • One interesting sidelight is that OPEC+ has banned the media from their meetings. It isn’t clear why, although one possibility is that the cartel expects an acrimonious meeting due to falling prices.
  • Lloyd’s of London has stopped underwriting tanker insurance on an Indian shipper that has transacted in Russian oil. Indian underwriters have stepped in to insure these fleets, but it is uncertain if the major canals will accept the new insurance as legitimate. At the same time, European insurers are growing nervous about the loss of market share to other insurers.
  • Russian oil continues to flow due to a growing network of tankers that help Moscow evade sanctions.
  • There are worries that this “fleet” of tankers is substandard. We note that Singapore has seen more tankers fail safety inspections.
• Production in Guyana is reported to be ramping up. It is projected to be a 1.2 mbpd oil producer by 2027, which would make it the largest oil producer in South America.  Managing the windfall of revenue will be a challenge for the government (although one they probably would prefer over not having the revenue).
  • Another area of potential growth is Argentina.
• Canadian tar-sand production is showing signs of increasing. Although production levels remain below pre-pandemic trajectories, the increase is notable.
• As drought spreads in China, we could see hydropower reduced, which could then lead to the use of other fuels to replace the lost power. Warm temperatures are already lifting demand.  If this continues, we expect coal and LNG demand to rise.
• To a great extent, insurance is where climate change will be enforced. Firms are already leaving the California market due to persistent wildfires.  At the same time, the insurance industry is shunning net-zero groups that have come under fire from the GOP.  Essentially, the industry will likely be driven by the assessment of risk, which could lead to changes in underwriting that would restrict development in vulnerable areas.
• Weak natural gas demand in Europe could lead to much lower prices in some markets. We view this issue as temporary, but low prices could discourage production and raise the odds of a spike in prices this winter.
• Colombia is considering a ban on fracking, and if implemented, it may create shortages of natural gas.
• Nigeria is ending petrol subsidies, which has led to mass hoarding.

 Geopolitical News:

• China continues to delay approval for another pipeline from Siberia. As we discussed last week, China appears to be getting remarkably cheap natural gas from the current Power of Siberia pipeline and is seemingly driving a hard bargain on funding a second pipeline.  Russia is in a tough spot on natural gas as its pipeline network is designed to send gas to Europe, but that market has been mostly lost due to sanctions (although not completely as Ukraine is still allowing Russian gas and oil to go through its territory).  Moscow needs to reroute pipelines away from Europe and toward Asia.  Beijing knows this, but despite promises of friendship, it isn’t willing to invest much to support Russia’s goal of moving its gas east.
• The Kingdom of Saudi Arabia (KSA) is participating in the evasion of Western sanctions on Russia by importing Russian diesel and then re-exporting it.
• One of the key benefits of a globalized world is that countries can specialize in what they most efficiently produce, which tends to lower inflation. As geopolitical tensions lead to a breakdown of globalization, nations may be forced to manufacture items that they might not be best at but still need to produce due to insecurity of supply.  China is especially vulnerable to food and energy deficiencies.  Due to its high population, limited arable land, and water constraints, China has tended to be a net importer of food.  With energy, China became a net importer in 1994.  As relations between the U.S. and China deteriorate, Beijing is vulnerable to the U.S. Navy’s ability to close off shipping lanes.  In response, China is considering new ways of securing food and energy.
• Russia has always considered Central Asia to be in its sphere of influence. In fact, during the Soviet era, the “stans” were part of the union.  These areas are rich in natural resources.  China is openly competing with Russia for dominance in this area, in part to secure key resources, and in part to exercise dominance over Russia.
  • We also note a Russian scientist working on hypersonic missiles has been detained on charges that he was selling secrets to China.
• German regulators are promoting heat pumps and looking to ban gas-fired boilers. The Greens support this idea, but other members of the ruling coalition oppose the measure.  This issue is fracturing the coalition, and although we doubt the government will fall over this measure, tensions within the coalition have been rising for some time.
• Iran has launched an alternative to the S.W.I.F.T. network in a bid to circumvent U.S. financial sanctions.
  • There are reports the IAEA has resolved some of the issues surrounding Iran’s nuclear program. However, the traces of highly enriched uranium have not been resolved.  As we noted last week, Iran may have built underground facilities so deep that U.S. conventional “bunker busters” can’t destroy them.  Iran may be close to the nuclear weapons threshold.
  • Iran has stated that it is near to unveiling an indigenous hypersonic missile.
  • Security forces in Iran claim to have uncovered a large “terrorist cell” allied with Israel.
  • Iran’s persistent interdiction of Persian Gulf shipping has prompted the UAE to ask for greater U.S. involvement. Although the Persian Gulf Arab states continue to woo China, when security concerns arise, these nations are not calling Beijing.  At the same time, China is looking to increase its economic partnership with the KSA; it is unclear if Beijing is willing to undertake the security arrangements.
  • Iran is facing a geopolitical threat from Azerbaijan. As Azerbaijan’s power rises relative to Armenia, the former could stir up ethnic unrest among the Azeri population.  Azeris are the largest minority in Iran comprising around 20% of the population.  Israel has good relations with Azerbaijan which further complicates matters.
  • Reports indicate that Iran plans to increase attacks on U.S. troops in Syria, and if true, it will raise tensions further.
  • There are reports suggesting that Egypt and Iran are mending relations.

 Alternative Energy/Policy News:

• During the first decade of this century, ethanol was thought to be a way to reduce America’s dependency on foreign oil. Regulations at the time envisioned a steady rise in the ethanol fuel mix.  However, the shale revolution reduced U.S. dependence on foreign oil, undercutting the national security argument for corn-based fuels.  Complicating matters further was that geopolitical disruption boosted grain prices significantly; using corn for fuel is seen as boosting food prices.  The Bush-era ethanol mandate has expired and it looks like the industry is being forced to defend current sales rather than boosting future use.
  • There are increasing doubts about ethanol’s green credentials.
  • Ethanol blending complicates the refining process which drives up gasoline costs. High gasoline prices are politically problematic.
• From the outset of the environmental movement, there have been tensions between the “Buckminster Fuller” wing and the “Thomas Malthus” wing. The former leans on technological fixes to environmental problems, while the latter believes reliance on technology creates an endless “treadmill” of solutions that leads to new problems where the only real solution is a decline in living standards.  This division often emerges, and the most recent instance appears to be tied to the carbon-removal industry.  The UN released a report critical of carbon renewal, because it is fearful that relying on it will curtail the drive to deploy alternative energy.  However, industry experts indicate that without direct carbon capture, meeting temperature targets will be impossible.
  • German police raided the homes of climate activists on suspicions that they were planning attacks on oil pipelines.
  • One interesting sidenote with captured CO₂ is what exactly to do with it. Although the gas has some industrial uses (in beer, for example), the amount of gas that is needed to be captured to make a difference far exceeds industrial demand.  However, one way the gas could be used, paradoxically, is to make synthetic natural gas.  By combining hydrogen with captured CO₂, you can create a clean methane that would seemingly be carbon neutral.
  • Exxon (XOM, $102.61) has made a deal with steelmaker Nucor (NUE, $132.72) to build a carbon-capture program.
• Resource nationalism is on the rise. Recently, we noted that South American commodity producers are considering nationalizing production of key metals, such as lithium and copper.  The Congo wants to change its royalty arrangements with foreign firms (mostly Chinese) on copper projects, in another example of resource nationalism.  This factor increases the attractiveness of key minerals in geopolitically safe places.  A new lithium development in Portugal has been especially welcomed.
• Clean energy proponents are pressing to streamline projects, a complaint heard from fossil-fuel companies as well.
• The president’s moratorium on solar panel tariffs survived a potential override of his veto.
• As we noted last week, China continues to dominate in EV components. Chinese battery companies are beginning to invest in productive capacity outside of China, perhaps to avoid a deteriorating geopolitical environment between the U.S. and China.  Europe is a primary target for this investment.
  • The Dutch trade minister, Liesje Schreinemacher, remarked that the energy transition is probably impossible without Chinese products. We suspect that nations will be forced to either use Chinese products, build them at home at higher costs, or forego them altogether.
  • Research is increasing on sodium batteries, although at this juncture, it doesn’t appear that sodium will displace lithium in EV batteries. Another possible alternative is lithium-phosphate batteries, which are safer and have a longer life span.
  • Toyota (TM, $139.88) announced it will build a large electric SUV in Kentucky.
  • EU leaders worry they won’t be able to match the U.S. on EV battery subsidies…which was probably Washington’s goal.
• When a new technology is developed, it takes a while for the industry to establish standards. Initially, there is a temptation for each firm to create its own standards with the hopes that they become dominant, as this adoption can create market power.  At the same time, widespread adoption usually requires a few standards so it’s easier for consumers to use the new technology.  The classic example is the VCR versus Betamax standard for videocassettes.  Although the latter was thought to be superior, the former dominated and eventually eclipsed Betamax.  Consumers would have otherwise needed two machines to handle the format.  This week, Ford (F, $12.13) announced that it would adopt the Tesla (TSLA, $197.40) NACS standard, which will allow Ford vehicles to use the 12k Tesla charging stations.  Other EV makers use the CCS standard.  By making this decision, Ford is increasing the odds that the Tesla standard will prevail.
• A German startup has won funding for a new fusion energy machine.

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by Bill O’Grady, Thomas Wash, and Patrick Fearon-Hernandez, CFA | PDF

Oil prices are rising back into their earlier trading range of $73 to $82 per barrel.

(Source: Barchart.com)

Commercial crude oil inventories fell a whopping 12.5 mb when compared to the forecast build of 1.5 mb.  The SPR fell 1.6 mb, putting the total draw at 14.1 mb.

In the details, U.S. crude oil production rose 0.1 mbpd to 12.3 mbpd.  Exports rose 0.2 mbpd, while imports fell 1.0 mbpd.  Refining activity declined 0.3% to 91.7% of capacity.

(Sources: DOE, CIM)

The above chart shows the seasonal pattern for crude oil inventories.  After accumulating oil inventory at a rapid pace into mid-February, injections first slowed and then declined.  This week’s unexpected drop in stockpiles has put inventories well below seasonal norms.

Fair value, using commercial inventories and the EUR for independent variables, yields a price of $60.59.  Although OPEC+ is trying to stabilize the market, recession worries are clearly pressuring crude oil prices.

Since the SPR is being used, to some extent, as a buffer stock, we have constructed oil inventory charts incorporating both the SPR and commercial inventories.  With another round of SPR sales set to happen, the combined storage data will again be important.

Total stockpiles peaked in 2017 and are now at levels last seen in 2002.  Using total stocks since 2015, fair value is $94.88.

Market News:

• Despite promises to cut greenhouse emissions, the G-7 disappointed climate activists by avoiding the setting of deadlines for reducing fossil fuel use. In general, maintaining economic growth usually trumps environmental concerns.
• Left-wing legislators in Congress are pushing for a ban on U.S. oil and gas exports. Although we doubt this will get through the GOP-controlled House, such bans do occasionally come up in Congress.  Curtailing these exports would be devastating for Europe and may not necessarily lead to more domestic supply.
• Russia has admitted that discounting, in part caused by the price cap, has led to lower revenues from oil sales. Russia is also receiving less for natural gas when selling it to China.  China appears to be focusing more on Central Asia for obtaining its natural gas.
• The IMF has a blog report about the growing integration of the global natural gas market. Such integration would be bullish for U.S. natural gas producers.
• There is a growing consensus that this summer will be a hot one. We note that Canadian wildfires have led to lower Alberta oil production.  Unusually hot weather in Southeast Asia has led nations to boost energy consumption, lifting the demand for Russian energy.
  • Russia claims that lower domestic consumption accounts for its higher levels of exports and its promised production cuts.
  • New research suggests that warming temperatures will lead to depopulation in the areas most affected.
• India is looking to refill its SPR; the reserve capacity is 39.8 mb and it is looking to buy about 10 mb.
• Nigeria is opening a large refinery. Its goal is to meet domestic demand for oil products in order to curtail imports.

 Geopolitical News:

• Iran and Russia are negotiating to build a rail/shipping line from Moscow through Iran to the Indian Ocean. Shipping facilities to India are also a part of this plan.  Not only would this transportation facility bring Russia and Iran closer, but it would also make India more likely to align with the emerging China-led bloc.
  • Iran and Russia are also increasing cooperation in energy.
  • Iran’s liquid assets in its sovereign wealth fund are reportedly down to $10 billion; the fund is said to hold other assets of $140 billion. The low level of cash suggests there is little available in the fund to meet possible funding issues.
  • Iran’s religious government is facing a potential threat from within the Shiite movement. Religion and government don’t always mix very well, even in theocracies.  Religion has differing goals to governance, and even authoritarian regimes have to make compromises that don’t often sit well with zealots.  Is this development a threat to the current regime?  As with all such issues, it is hard to say, but its mere existence does raise concerns.
  • Iran dismissed Ali Shamkhani, the secretary for the Supreme National Council, which is the body that steers Iran’s security and foreign policy. He had ties to Alireza Akbari, who was deemed to be a spy.
  • In response to recent vessel seizures by Iran, the U.S. Navy is increasing patrols in the Persian Gulf.
• Iran has put its nuclear development facilities underground, and recent reports suggest that it has tunneled deeper to the point where U.S. conventional “bunker-buster” weapons would not be able to destroy these facilities. Although this may prompt Iran’s enemies to use sabotage and cyberattacks, it also could lead to the use of nuclear bunker-busters instead.

 Alternative Energy/Policy News:

• An industry report shows that one of the key factors holding back the energy transition is the lack of profitability. Although we expect this factor to improve with expansion, it also highlights the need for government subsidies until scale can be achieved.
• Another important issue was noted by David Calhoun, the CEO of Boeing (BA, $2007.00), who indicated that there is no cheap way to decarbonize air travel and doing so would likely lead to much higher prices and less air travel.
• As lithium demand soars due to EVs, Latin American nations are trying to manage the potential boom to benefit their societies. As we have noted recently, a couple of countries are considering nationalizing lithium mining.  We could also see them follow the Indonesian model with nickel—force firms to build fabrication and refining plants within their country to prevent these nations from being mere suppliers of raw material.  Chile has announced new taxes on copper miners.
  • We note that China has been aggressively buying into lithium mines worldwide to secure the metal for EVs.
• JP Morgan (JPM, $138.40) announced $200 million in support for carbon removal. Direct carbon capture will likely be necessary to maintain temperatures, and the support by this bank is a good sign for the industry.
• In the scramble to secure metals for EVs, even oil companies are looking to buy into production. Meanwhile, Ford (F, $11.82) is aggressively working to gain access to lithium.
• One of the problems with EVs is the time required to recharge batteries. At best, it’s a 20-minute process but often requires hours to fully charge a vehicle.  For EVs used in normal commuting, recharging at home usually addresses this issue.  However, for road trips, EVs are simply less convenient when compared to internal combustion engine vehicles.  One idea that has been around for a while is battery swapping.  If an EV is built to have removable batteries, it is then possible to build facilities that will house charged batteries where drivers can swap their discharged batteries for charged ones.  If such infrastructure is built, it would shorten the downtime of getting a recharged battery to that of buying gasoline.  There is renewed interest in this idea, but the problem is that if solid-state-battery technology evolves, recharging times should decline to rival gasoline refilling.
• We have been closely watching the evolution of China’s EV manufacturing. Increasingly, it looks like China has developed world-class quality vehicles at low prices.  We recommend this Sinocism podcast for details.  Chinese cars represent a serious threat to European and U.S. automakers.  Essentially, Western governments are facing a dilemma.  If they open up their markets to Chinese EVs, the energy transition will move faster and doing so will likely contain inflation, but the cost would be losing this market to China.  Or they could use tariffs and quotas to ban Chinese vehicles, slow the energy transition, and face higher inflation.  Our expectation is that the second outcome is most likely.
  • On a related note, Honda’s (HMC, $28.48) Chinese joint venture is starting to export EVs and plug-in hybrids abroad. The first sales are going to Europe.
  • Although we have been reporting on the world’s dependence on China for energy transition materials, this link has an attractive graphic that highlights China’s dominance.
  • An important element of China’s dominance is in the processing of energy transition metals. Other nations are trying to build more processing outside of China, but one of the reasons China leads the industry is that it has lower costs.  China’s processing superiority has led to vertical integration in components.  On a related note, Indonesia is trying to build a nickel processing industry to complement its preeminence in nickel mining; it’s not as easy as it looks.
• Europe was hoping to get access to U.S. subsidies for EV production. It looks like negotiations have stalled, leaving the EU at a disadvantage.
• As EVs become more prevalent in the West, ICE vehicles are ending up in the developing world.
• China is also rapidly expanding into nuclear power.
• Although fixed solar-panel arrays are the most typical deployment of these generating devices, floating panels in bays or lakes are common in Asia. We are starting to see such arrays in the U.S. as well.
• One of the problems with solar and wind power is its intermittency. Because the power doesn’t flow regularly, utilities must keep traditional power backups to meet conditions where wind or sun power isn’t available.  Obviously, batteries would solve this problem, but sadly, “metal” batteries are expensive.  We are seeing increasing reports, though, of creative ways of storing energy by either heating water or salt in the earth and using it to push a turbine or by using pumped storage.
• The EU’s joint purchasing program for natural gas is being seen as a success. By combining buying power, the Europeans have been able to purchase natural gas at lower prices than they otherwise would have been able.  Now the EU wants to branch out by using that same buying power to purchase hydrogen and other “green” materials.
• Last week, we commented on U.S. funding for carbon capture projects. One of the downsides is that if the CO₂ escapes, it can be deadly.  It is this fear that drives the permitting delays.
• California has approved 45 new transmission projects worth a total of $7.3 billion.
• In Europe, refiners are experimenting with using cow manure processed into methane to provide the energy needed for refining crude oil.
• There are constant tensions between those who aim to streamline permitting and the parties that want to prevent any sort of disruption. Interestingly enough, this opposition is not just against fossil-fuel development.  A recent example involves the Burning Man festival in Nevada, which is tangling with a geothermal development.
• Although lithium, rare earths, and cobalt dominate the headlines regarding the energy transition, aluminum is also a key metal. It is an important component for solar power and it reduces weight in vehicles which in turn improves fuel efficiency.  Despite this importance, it has been mostly neglected by policymakers.  Aluminum is sometimes called “molten electricity” due to the large amount of electricity needed to smelt the metal.  Because it takes so much electricity to make, production in the West has been falling.  This neglect may sadly lead to yet another supply problem in the future.

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by Bill O’Grady, Thomas Wash, and Patrick Fearon-Hernandez, CFA | PDF

Oil prices were mostly steady over the past week.  Recession fears continue to stifle price movements.

(Source: Barchart.com)

Commercial crude oil inventories rose 5.0 mb compared to the forecast draw of 2.0 mb.  The SPR fell 2.4 mb, putting the total build at 2.6 mb.

In the details, U.S. crude oil production fell 0.1 mbpd to 12.2 mbpd.  Exports rose 1.4 mbpd, while imports increased 1.3 mbpd.  Refining activity rose 1.0% to 92.0% of capacity.

(Sources: DOE, CIM)

The above chart shows the seasonal pattern for crude oil inventories.  After accumulating oil inventory at a rapid pace into mid-February, injections first slowed and then declined.  For the past two weeks, stock have increased, putting the current level near average.

Fair value, using commercial inventories and the EUR for independent variables, yields a price of $56.42.  Although OPEC+ is trying to stabilize the market, recession worries are clearly pressuring crude oil prices.

Since the SPR is being used, to some extent, as a buffer stock, we have constructed oil inventory charts incorporating both the SPR and commercial inventories.  With another round of SPR sales set to happen, the combined storage data will again be important.

Total stockpiles peaked in 2017 and are now at levels last seen in 2002.  Using total stocks since 2015, fair value is $93.20.

Gasoline markets are tight.

The previous chart shows the number of days the current level of inventory could cover based on current demand.  The latest reading is 24 days, a level we usually see in late October, well after the summer driving season has ended.  As the five-year average shows, we usually have about six more days of inventory available as we swing toward Memorial Day.  Barring a sharp decline in demand, we are going into the summer with unusually tight gasoline supplies, which may boost prices.

Market News:

• The IEA projects that the oil market will tighten rather dramatically in the second half of this year. The forecast assumes strong Chinese demand.
• Although we continue to harbor doubts this will ever occur, the DOE has issued parameters to add 3.0 mb to the SPR in August. If prices are above $70 per barrel, we doubt the order will be executed; in addition, this is a very small amount given the fact that 231 mb have been drained since the start of 2022.
• There is growing evidence that the shale boom is fading. Rig counts have stalled, and some new rigs are being auctioned off at low prices.  The bargain prices on rigs may simply reflect overbuilding, although rig count growth has clearly slowed.
• The DOE is projecting higher natural gas prices this year.

• Kazakhstan oil exports jumped 24% in March when compared to last year. The sharp rise reflects the disruptions caused by the war in Ukraine.  We also note that Russian oil exports hit a post-invasion high in April, although the price for Russian oil has declined, leading to less revenue.  To some extent, this was the goal of the U.S. from the outset—to maintain global supply levels for crude oil (to avoid high prices) but reduce Russia’s revenue—which it seems to have achieved.  Thus, supply has remained elevated, which has kept prices lower than expected.
• An El Niño event is forming quickly and the NOAA says it will be significant. This will likely mean a warm winter.  So far, 2023 is setting up to be the fourth warmest April on record over the past 174 years, and heat advisories have been issued for the Pacific Northwest.  This El Niño is expected to boost global temperatures past the 1.5 C mark in the next few years, which has been a target for some environmental actions.
• With the EU outlawing the sales of internal combustion engine (ICE) cars by 2035, and the U.S. taking steps to advance the conversion, there is some concern that gasoline demand will decline. However, it’s important to remember that ICE vehicles have an ever-expanding lifespan, with the current average light vehicle lifespan being 12.5 years and it can be even longer for cars.  That means that most ICE vehicles sold today will still be running into the mid-2030s.
  • The EIA projects that EV new car sales will reach a 15% market share by 2030 but could flatten after that. If this prediction is correct, it suggests that oil will be needed well into this century.
• At the same time, we note that French President Macron has called for a time out on EU environmental regulations. He is worried that European firms won’t be able to compete against foreign companies less encumbered by environmental rules.
• Canadian oil prices often trade at a discount to U.S. prices due to the lack of transportation. However, as bottlenecks ease, we are seeing spreads narrow.
• Argentina is preparing to use natural gas from the Vaca Muerta (“dead cow”) shale fields to offset imported gas from Bolivia.

 Geopolitical News:

• Iran’s economic minister is visiting the Kingdom of Saudi Arabia, providing further evidence of the diplomatic thaw between the two countries.
• Iraq and Shell (SHEL, $60.13) are in a joint venture to supply gas to an electric utility that is mostly owned by an Iranian company.
• The EU and G-7 have barred states in both groups from accepting natural gas from Russian pipelines. The goal is to take away any idea that Russian piped gas could return at some point, because if that hope was available, it might curtail the investment necessary to transition away from Russian gas.
• Venezuela is issuing export licenses to European oil companies. The two companies, ENI (ENI, $29.02) and Repsol (REP.MC, EUR, 13.30), already plan to export LNG and other natural gas liquids.  The goal now is to export oil as well.  Gradually, Venezuela has seen the sanctions regime ease.
• As we have noted in recent weeks, Russian oil is being processed into products and sold around the world. The EU is being pressed to stop buying these refined products to maintain sanctions on Russian oil.
• One way the EU is trying to protect their industrial base from environmental rules is with a carbon tariff. The idea is that if Europe has strict environmental restrictions, then foreign nations that don’t deploy similar policies will undercut EU prices.  Foreign nations often view such measures as protectionist; we note India is taking its case to the WTO with regard to these carbon tariffs.

 Alternative Energy/Policy News:

• The Biden administration has proposed sweeping new rules on electric utilities designed to reduce carbon emissions. As we noted last week, the Supreme Court may limit the ability of agencies to make such shifts, but regardless, the White House is moving ahead despite the risks.  We do note that the rules may support carbon capture, which is controversial among environmentalists.  Most carbon capture activity is occurring in the natural gas processing industry.  The Biden administration is boosting funding for various carbon storage projects.  Politically, these projects make sense as they allow for the continued use of fossil fuels but mitigate the carbon impact.  Of course, most of these carbon storage methods are untested, but if they work, they will offer a “middle of the road” approach to deal with carbon emissions.
  • The White House is also trying to ease permitting regulations, which has support from both fossil fuel proponents and environmentalists. However, streamlining permitting will remove one of the key tools used by environmentalists to thwart the expansion of pipelines.  In the debt-ceiling talks, the GOP is trying to streamline oil and gas permitting while thwarting the expansion of power lines, which would be needed to make wind and solar more efficient.  We suspect this stance is for bargaining purposes.
  • Even in oil country, there is concern about carbon capture, since safely storing tons of CO₂ underground is a new industry.
  • Recent climate laws have around $11 billion in funding for rural low and zero emissions power projects. This money is designed to help co-ops deploy  renewables, capture carbon, and execute other projects.
• One of the conundrums that we have been watching is that the conversion from fossil fuels will require lots of mining, some of which is environmentally disruptive. As environmental groups oppose mining projects, they are creating supply issues on critical metals needed for renewable energy technologies.
• Distributed power will raise costs for consumers who remain with traditional electric utilities. It may be necessary to tax those who install solar panels on their homes and businesses for equity reasons, but doing so will reduce the impact of distributed power.
• As the Biden administration unveils its rules for solar power subsidies and credits, the domestic solar panel industry is disappointed in the level of Chinese content that is still allowed for subsidies and credits. A number of companies in this area saw stock gains on the news.  Still, there is fear that the rules will allow China to dominate solar power.
  • On the EV side, Lithium Americas (LAC, $21.80) is splitting from China’s Ganfeng Lithium Group to develop a project in Nevada. The affiliation with China was becoming an issue.
  • The president has vetoed a resolution that would have prevented the Commerce Department from suspending tariffs on Chinese solar panels. The panel manufacturing industry wanted the tariffs to remain in place, while the installers wanted access to cheap Chinese solar panels.
• As we have noted in recent weeks, there is interest in using less costly materials in EV batteries. One being considered is a lithium-iron-phosphate battery, which uses less nickel compared to other battery formulations.  This battery tends to lose power in cold temperatures, but new developments suggest this downside could be limited.
• The Inflation Reduction Act upset the Europeans as it created subsidies to build out the EV infrastructure. European firms in this industry, including automakers, are considering investments in the U.S. to take advantage of these incentives.  European nations are trying to figure out if and how they can match the support of the U.S. act.  Recently, Germany offered Northvolt, a private Swedish battery maker, subsidies to build a battery factory in Germany.  The EU has been trying to craft a broad European response, but individual nations have started to move independently.
• EV sales in Asia are rising rapidly. China is positioned to dominate the global EV market.
  • China is the majority supplier of key EV components. This dominance includes both raw materials and processing.  Through industrial policy, China has steered its economy toward creating the industrial structure needed for this transition.
  • Other automakers are giving up on the Chinese market due to the growing prowess of Chinese firms. And it’s not just foreign firms.  Chinese firms, as well,  are locked in stiff competition with each other.  The competition is leading to rapidly falling prices.
  • For the rest of the world, there is a growing possibility that nations will either (a) import Chinese EVs at low cost to expand EV usage, or (b) exclude Chinese EVs to protect domestic industry. The consequence to the first choice is low inflation (imagine $15k new cars) and expanded EV adoption at the cost of harming domestic industry.  The second choice supports domestic industry and jobs but slows the adoption of EVs and likely triggers higher inflation.
  • Increasingly, automakers are being forced to buy mines to secure key metals for batteries.  This vertical integration is similar to the early days of ICE vehicles.

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by Bill O’Grady, Thomas Wash, and Patrick Fearon-Hernandez, CFA | PDF

Although prices have bounced to return to the lower end of the $84/$72 trading range, recession fears continue to dominate sentiment.

(Source: Barchart.com)

Commercial crude oil inventories rose 3.0 mb compared to the forecast draw of 2.5 mb.  The SPR fell 2.9 mb, putting the total draw at 0.1 mb.

In the details, U.S. crude oil production was unchanged at 12.3 mbpd.  Exports fell 1.9 mbpd, while imports declined 0.8 mbpd.  Refining activity rose 0.3% to 91.0% of capacity.

(Sources: DOE, CIM)

The above chart shows the seasonal pattern for crude oil inventories.  After accumulating oil inventory at a rapid pace into mid-February, injections first slowed and then declined.  This week there was an increase, although storage levels remain below seasonal norms.

Fair value, using commercial inventories and the EUR for independent variables, yields a price of $58.00.  Although OPEC+ is trying to stabilize the market, recession worries are clearly pressuring crude oil prices.

Since the SPR is being used, to some extent, as a buffer stock, we have constructed oil inventory charts incorporating both the SPR and commercial inventories.  With another round of SPR sales set to happen, the combined storage data will again be important.

Total stockpiles peaked in 2017 and are now at levels last seen in 2002.  Using total stocks since 2015, fair value is $93.53.

Market News:

• Shale oil has been mothering short of a revolution, but there are worries that we may already be past the peak in production. If so, the impact on the world economy could be profound.
• The U.S. Chamber of Commerce has come out in support of streamlining the permitting process.
• As oil company earnings have risen, so has talk of a windfall profits tax.
• We live in divided times and there are very few topics that unite groups in America. Opposing China is one such issue that has become bipartisan, as is the recognition that local opposition to energy projects is slowing buildouts, whether they be tied to the fossil fuel industry or renewables.  Congress has tried to address the issue of “red tape,” but we don’t expect this issue to be resolved anytime soon.
• Usually, the focus on temperature-related energy consumption is focused on winter when cold temperatures drive the demand for heating. Increasingly, though, summer cooling demand is becoming significant as well.  Last week, we noted that Southeast Asia is suffering from extreme temperatures early in the season, and hot, dry weather is triggering wildfires in Alberta, Canada.  We also note that China is warning that a hot summer could lead to power shortages.
• Iraqi policymakers are renewing their focus on energy with a major goal being self-sufficiency in natural gas. Iraq probably does have the resources as its associated gas flaring is the world’s second largest.
• The Biden administration is floating the idea of imposing an energy tax on crypto mining. Data suggests the activity is the fourth largest consumer of household electricity.
• Russian natural gas production has declined 10% so far this year.

 Geopolitical News:

• As China and the Kingdom of Saudi Arabia (KSA) have agreed to price oil sales in CNY, there has been a notable uptick in Chinese investment into the KSA.
  • We note that National Security Advisor Jake Sullivan is in Saudi Arabia this week as part of a trip to the UAE and India. It appears that part of this visit will include a discussion on a possible U.S./KSA railway project, perhaps to compete with China’s Belt and Road Initiative.
• As is often the case when sanctions are applied, firms willing to violate the sanctions (and bear the risk) can be rewarded with unusual profits. In the case of Russia, Greek firms appear to be the most active.  Indian shippers are also involved.
• The G-7 price cap has led the Kremlin to boost taxes on energy companies. Falling production and sales have crimped tax revenue and the state has decided to raise taxes to maintain revenues.  Of course, this action will also reduce revenue for investment.
• There is a raging debate underway surrounding the USD’s reserve currency status. Our take is that U.S. financial sanctions are encouraging nations that are fearful of sanctions to develop alternative international trade and financing arrangements.  We doubt these arrangements will totally supplant the dollar’s deeply entrenched status.  We note that Russia and India suspended talks on settling trade in INR, most likely for the simple reason that Russia has realized it would accumulate the Indian currency without a clear way to recycle the INR.
  • At the same time, Pakistan says it wants to buy Russian oil with CNY. Pakistan is a major recipient of Chinese aid and investment, and thus, is likely to find it easier to secure CNY instead of USD.

 Alternative Energy/Policy News:

• The UAW has refrained from endorsing Biden for reelection. The union is worried about the EV movement.  Since EVs have fewer parts than an ICE vehicle, job losses will be inevitable.  We don’t doubt that an endorsement will eventually arrive, but it’s a warning to Biden that he may have to support the UAW which will likely mean higher prices for EVs.
• The IEA notes that 15% of energy-related emissions come from oil and gas operations. Fortunately, the agency notes that existing technology exists to curb these emissions at affordable costs.
• Although controversial, this graphic shows the allure of atomic power due to the fact that the energy density of uranium dwarfs all other forms of energy.
  • Microsoft (MSFT, $310.52) has agreed to purchase nuclear fusion energy beginning in 2028 from a privately held firm called Helion. Although we are not sure anyone will have commercially available fusion power at scale, the fact that a large company like Microsoft is willing to forward purchase power can help boost investment and research.
• Toyota (TM, $138.18) announced it will supply hydrogen fuel cells for semi-trailer trucks. Although battery technology dominates light vehicles, the batteries are too heavy to be practical for over-the-road trucks.  Hydrogen offers an alternative to diesel-powered trucks.  Toyota has lagged in the EV space, in part, because it has been more focused on fuel cells.  In this application, hydrogen may pay off.
• The GOP and nine Senate Democrats have passed a measure to overturn President Biden’s pause on solar tariffs; Biden has signaled he will veto the resolution. There has been a constant state of tension between those who want to source alternative energy production domestically (at higher costs) or leave the possibility open to import solar panels from China (the world’s low-cost producer).
  • Lawmakers are also displeased with the administration’s easing of local content rules for critical minerals.
• Israel unveiled a massive thermal storage operation which is expected to open by year’s end.
• There is growing alarm over recent moves by nations in South America to nationalize various mineral mining operations. Moves to nationalize lithium, specifically, have raised concerns.
• Eighty percent of new cars sold in Norway are EVs. The good news, so far, is that the grid has handled the change well, the cars are quieter, and pollution is much lower.  The bad news is that it has hurt the established car makers and lines have developed at charging stations.
• There is growing concern about the U.S.’s deficits in rare earths, which are critical for the energy transition. We note that a large rare earths deposit has been found in Wyoming.
  • The Biden administration is moving to expedite a manganese and zinc mine in southern Arizona but is running into environmental opposition.
• Direct carbon renewal projects are starting to operate. These are being helped by carbon-credit exchange markets.  However, environmentalists are increasingly opposing these efforts, fearing that they will reduce the incentive to reduce fossil fuel usage.
• Direct lithium extraction technology promises to boost production of the key mineral significantly.
• China’s outbound foreign direct investment has been declining over the past decade. One bright spot, though, is China’s investment in European EV battery factories.  This development could be problematic and is similar to the issues regarding solar panels.  China is the low-cost producer of EV batteries, so having China build factories in Europe accelerates the energy transition.  However, allowing China to build these factories makes European EV producers more dependent on and vulnerable to China.
  • Glencore (GLNCY, $11.24) is planning to build Europe’s largest EV battery recycling plant.

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