Quote of the Day.
Tonight, I ask for your prayers for all those who grieve, for the children whose worlds have been shattered, for all whose sense of safety and security has been threatened. And I pray they will be comforted by a power greater than any of us, spoken through the ages in Psalm 23: "Even though I walk through the valley of the shadow of death, I fear no evil, for You are with me.".
President George W, Bush September 11, 2001

Please remember all of the brave people that lost their lives in this senseless act.

This week is setting up much like last week in that stimulus or quantitative easing is by far the main item of focus by both traders and investors. The US Fed FOMC meeting is Wednesday and Thursday of this week with many participants expecting the Fed to act now to try to jump start the economy and try to put some life into the faltering jobs market as both are part of their mandate. The market became slightly more convinced that the Fed would act this week after Friday's weak nonfarm payroll numbers. I am still not convinced the Fed will embark on a new round of quantitative easing this week rather I am expecting them to extend operation twist and make very strong statements about the actions they will take if the economy does not improve.

Irrespective of my view the market view is much more biased to QE3 now and that view has pushed risk asset market values higher especially over the last week or so. Oil prices have firmed but most of the rise in oil prices has been to recover the losses from earlier last week. As of this morning the spot WTI contract is about unchanged from the level it was at two Friday's ago or before the market started raising its expectation for more QE.

Global equity markets have also been trading in a bit of a holding pattern as shown in the EMI Global Equity Index table below. Over the last twenty four hours the Index has lost about 0.1% narrowing the year to date gain to 5.2%. Action in equities over the last twenty four hours has been mostly a light round of profit taking selling as most players await the Fed decision on Thursday. Unlike oil global equities have not only recovered their losses from earlier last week but have added value on a combination of the ECB bond buying program and in anticipation of QE3 since the middle of last week. Germany remains at the top of the leader board with a year to date gain of 22.1% while China remains at the bottom of the list with a loss of 3.6% for the year and about 20% loss over the last 12 months. For the last several sessions global equities have been a neutral to positive price driver for the oil markets as well as the broader commodity complex.
Tomorrow Germany's Federal Constitutional Court will rule on Germany's participation in the European Stability Mechanism (ESM) a permanent 500 billion euro fund that offers loans to member states. The ESM may also buy bonds to lower member country borrowing costs. Germany will be the largest contributor to the fund with a 27% share. This ruling is certainly a key element for the ECB program announced last week by Mr. Draghi.

The recovery from the preemptive shut-ins ahead of hurricane Isaac continues and are almost complete. As of yesterday afternoon there is now just 110,144 bpd or 7.8% of GOM crude oil production shut in and just 274 mmcf/d or 6.1% of GOM Nat Gas production shut down. The industry will be at normal operating levels in the next day or so. There are no reports of any major or lasting damage to the energy infrastructure and all of the shutdowns of production, refining, processing and logistics were simply preemptive. There are a few glitches in a couple of refinery start-ups in Louisiana that could prolong the return to normal operations for about 500,000 bpd of capacity across two refineries. However, I believe it is mostly related to temporary flooding issues and not long term structural damage at the two refineries.

At the moment there is nothing in the near term coming from the tropics that is a threat to the energy operations in the Gulf of Mexico or US land for that matter. There is a tropical weather pattern located in the central Atlantic between the Cape Verde Islands and the Lesser Antilles that is showing signs of organization. At the moment this pattern has a 90% chance of becoming a tropical cyclone over the next 48 hours as it moves west-northwestward. This is an issue to keep on our radar but nothing more at the moment.

I am not sure how much it will matter but there will be a plethora of oil fundamentals reports and data this week. The weekly oil inventory reports will be released on their regular scheduled days with the preemptive shut-ins from Hurricane Isaac still impacting the overall balances but to a lesser extent than in last week's reports. In addition the monthly oil reports will also be released this week. Later today both the EIA and OPEC will release their oil market projections while the IEA report will hit the media airwaves early on Wednesday morning. Market participants will be focused on the supply side of the equation in the weekly oil inventory reports. On the other hand market players will be mostly focused on the projections of demand for the rest of 2012 and 2013 in the three monthly reports. The main question most players will be looking for in the monthly reports is how much will each of the agencies lower their forecast for demand as most of the macroeconomic data over the last month have continued to suggest a further slowing of the global economy.

This week's oil inventory reports will be released on time this week. The API inventory report will be released late this afternoon with the more widely followed EIA data hitting the media airwaves at 10:30 AM EST on Wednesday. This week's inventory report will still be impacted and reflective of the lost production of both crude oil and refined products. This week's oil inventory report could be a price catalyst especially if the actual outcome shows a large deviations from the projections. However, any inventory reaction is likely to be short lived as the main event for this week is Thursday's FOMC outcome.

My projections for this week's inventory report are summarized in the following table. I am expecting the US refining sector to still be in recovery mode and not fully return to normal operations from the preemptive shutdowns ahead of Isaac. I am expecting a modest draw in crude oil inventories, a draw in gasoline and a small build in distillate fuel stocks all related to Isaac. I am expecting crude oil stocks to decrease by about 2 million barrels. If the actual numbers are in sync with my projections the year over year surplus of crude oil will now show a surplus of 2 million barrels while the overhang versus the five year average for the same week will come in around 19.3 million barrels.
I am expecting a modest draw in crude oil stocks in Cushing, Ok as the Seaway pipeline is now pumping and refinery run rates are continuing at high levels in that region of the US. This would be bearish for the Brent/WTI spread in the short term which is now trading over the $18.5/bbl premium to Brent level. I am still of the view that the spread will continue the process of normalization over the next 6 months.

With refinery runs expected to decrease by 2.5% I am expecting a modest draw in gasoline stocks. Gasoline stocks are expected to decrease by 1.5 million barrels which would result in the gasoline year over year deficit coming in around 11.4 million barrels while the deficit versus the five year average for the same week will come in around 6.5 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 29.2 million barrels below last year while the deficit versus the five year average will come in around 24.7 million barrels. Exports of distillate fuel during the storm were likely held back.

I still think the oil price is overvalued and toppy at current levels as it approaches a key technical resistance area. WTI is still currently in a $90 to $100/bbl trading range while Brent is in a $110 to $120 trading range. That said prices are almost solely being driven in the short term by a combination of last week's outcome of the ECB meeting and the growing view that more stimulus from both China and the US is on the way.
I am keeping my view at neutral as the industry is already almost back to normal operations after Isaac. At current prices the economics still favor Nat Gas but if prices do work their way to the upper end of the trading range utilities could begin to move back to coal.

Markets are mostly higher as shown in the following table.


Best regards,
Dominick A. Chirichella
Follow my intraday comments on Twitter @dacenergy.

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