China PMI weighing on oil complex

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To match Analysis MEXICO-ECONOMY/CHINA/
A man drives a fork lift at an industrial building in Saltillo, Mexico, January 25, 2011.

The technical bottoming pattern that had started to form in the oil complex over the last few trading sessions may run into some difficulty after the latest release of the flash PMI manufacturing data out of China overnight. China's manufacturing-activity growth has slowed this month, according to HSBC data released Tuesday. The flash version of HSBC's manufacturing Purchasing Managers' Index fell to a two-month low of 50.5 from March's final reading of 51.6, and well below a market consensus forecast of 51.5. New export orders contracted after a temporary rebound in March, suggesting external demand for China's exporters remains weak which should not be a surprise as the economies of its two largest customers… Europe & the US remain sluggish.

The oil complex gained ground across the board on Monday but since the China PMI data has hit the media airwaves during Asian trading hours a negative tone is once again emerging over the complex. Over the last two weeks most of the fundamentals forecasts as well as the majority of the macroeconomic data all have been pointing to a slowing of the global economy and thus a slowing of global oil demand growth. The weakness in the oil complex continues to come from a growing view that global oil demand may turn out to be lower than what the market was expecting earlier in the year. With supply still relatively robust any further weakening of demand is going to result in an imbalance with inventories likely to build and keep a cap on oil prices. In addition to the negative sentiment coming from the disappointing PMI data out of China the Xinhua News Agency reported that China's commercial stockpiles of crude oil rise by 22 percent at the end of March versus February. This is yet another indication that the consumption in the main oil demand growth area of the world may be showing signs of slowing as much of the data has been suggesting over the last several weeks.

Global equity markets were about unchanged over the last twenty four hours but the momentum may be swinging back toward the negative side since the release of China's PMI data. Ahead of the European trading session China's Shanghai A shares have declined over 2 percent since the PMI data release with Hong Kong falling a tad over 1 percent. The EMI Index gained just 0.9 percent over the last twenty four hours after losing 1.65 percent last week. Five of the ten bourses in the Index remain in negative territory for the year to date with Brazil still showing the largest loss for 2013. On the other side of the equation Japan has been relentless and is now showing a 30.1 percent gain for 2013 as the weak Yen remains the main driver for this export oriented economy. Equities are a neutral to bearish price drive for the oil complex.

This week's round of oil inventory reports will follow its normal schedule with the API data being released on Tuesday afternoon followed by the EIA report hitting the media airwaves at 10:30 am on Wednesday. My projections for this week's inventory report are summarized in the following table.

I am expecting a modest build in crude oil inventories, a small build in distillate fuel... as the weather returned to spring like temperatures over the east coast during the report period... and a build in gasoline stocks as refinery runs are expected to also show a gain.

I am expecting crude oil stocks to increase by about 1.5 million barrels. If the actual numbers are in sync with my projections the year over year comparison for crude oil will now show a surplus of 16.1 million barrels while the overhang versus the five year average for the same week will come in around 34.6 million barrels.

I am expecting a small draw in crude oil stocks in Cushing, Ok even though the Pegasus pipeline has remained shut down for all of the report period. Last week the Keystone pipeline experienced an unscheduled interruption in the flow of oil out of Canada which subsequently resulted in reduced flow into Cushing. Although the line was back to full operation by mid last week the impact of Keystone likely resulted in a modest decline in Cushing inventories during the report period. This will be bullish for the Brent/WTI spread and should serve as a catalyst to keep a cap on any further widening of the spread in the short term.

With refinery runs expected to increase by 0.4 percent I am expecting a build in gasoline stocks. Gasoline stocks are expected to increase by 0.3 million barrels which would result in the gasoline year over year surplus of around 10.3 million barrels while the surplus versus the five year average for the same week will come in around 7.1 million barrels.

Distillate fuel is projected to increase by 0.5 million barrels. If the actual EIA data is in sync with my distillate fuel projection inventories versus last year will likely now be about 10.2 million barrels below last year while the deficit versus the five year average will come in around 16.3 million barrels.

The following table compares my projections for this week's report (for the categories I am making projections with the change in inventories for the same period last year. As you can see from the table last year's inventories are not in directional sync with some large differences compared to last year's changes. As such if the actual data is in line with the projections there will be modest changes in the year over year inventory comparisons for most everything in the complex.

I am maintaining my view of the entire complex at a cautiously bearish bias as inventories are starting to build and moving the complex back into a supply driven mode rather than a demand led market. In addition demand growth is starting to turn to the downside. Brent has now breached its range support level again with WTI and refined products not faring any better. The complex is now suggesting that the next move is likely to be a continuation to the downside.

I am maintaining my view at neutral for Nat Gas and adjusting my bias back to neutral even though the spot Nymex contract is continuing to trade above the $4.16/mmbtu level. The market failed for the third day in a row to breach the $4.40/mmbtu resistance and then turned to the downside since failing yesterday. That is a bearish signal and one that suggests that the market may now test the lower $4.16/mmbtu support level.

Markets are mostly lower ahead of the opening of the European trading session as shown in the following table.

Dominick A. Chirichella
dchirichella@mailaec.com

Follow my intraday comments on Twitter @dacenergy.

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