Europe, Europe and a little bit more Europe. Not much of anything else matters very much in the short term other than what will be the final outcome of tomorrow's ECB meeting as well as the very important EU Summit on Friday. As we have seen all week the markets are reacting to every single news snippets that has the word Europe in it whether or not it is something significant or not. Along the way other events are unfolding but they have continued to play a secondary role insofar as the direction of most risk asset markets. Interestingly the market is slowly building in a positive outcome to the European events as equities and most commodity markets are higher on the week even after S&P put 15 EU countries and the EFSF fund on downgrade negative. In each instance the markets sold off but within a relatively short period of time they recovered most of the gains that were in place prior to the announcements by S&P. When seemingly bad or bearish news hits the markets and the market does not react to the information it certainly suggests that there are a lot of reluctant sellers and possibly some underlying buying in the market. Tomorrow starts the big events and we will then see how the market digests and finally trades around the main results.

Today Treasury Secretary Geithner said he was very encouraged with the progress that is being made in Europe in coming up with a plan to shore up the euro. In addition China also expressed support for the current outlines of the plan and offered to work with the European governments. They said they were ready to work with the international community to prevent turbulence in the international financial markets and the world economy and promote a return to growth. So everyone is saying all of the right things. The bottom line will come on Thursday and Friday and how the markets interpret and react to the results.

So far in the world of equities the markets have been reacting positively this week as shown in the EMI Global Equity table below. The Index is now up by 1.4% on the week narrowing the year to date loss to 12.2%. The US remains at the top of the list of bourses in the Index. So far this week the equity markets are suggesting that the Europeans may come up with a plan that the market will view as one that is long lasting and durable. For this week equities have also been a positive support for oil and the broader commodity complex.
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The EIA released their latest monthly Short Term Energy Outlook (STEO) yesterday afternoon. Following are the main oil related highlights from the report.

Given expected rates of global oil consumption growth driven by emerging markets outside of the Organization for Economic Cooperation and Development (OECD), a combination of increased oil output from members of the Organization of the Petroleum Exporting Countries (OPEC) or inventory withdrawals of about 200 thousand bbl/d will be needed in 2012 to supplement non-OPEC supply growth in order for the oil market to balance at the prices projected in this Outlook.

This forecast assumes non-OECD oil-weighted real GDP increases by 4.9 percent and 5.2 percent in 2011 and 2012, respectively. Forecast OECD oil-weighted GDP growth slows from 1.7 percent in 2011 to 1.5 percent in 2012. EIA expects that world crude oil and liquid fuels consumption will grow from 87.1 million barrels per day (bbl/d) in 2010 to 88.1 million bbl/d in 2011 and 89.5 million bbl/d in 2012 (World Liquid Fuels Consumption Chart). China and other emerging economies account for most of the projected crude oil and liquid fuels consumption growth through 2012. OECD consumption is projected to decline by 0.4 million bbl/d in 2011, and to remain relatively flat in 2012.

Projected total U.S. liquid fuels consumption in 2011 falls by 260 thousand bbl/d (1.4 percent) from 2010. Motor gasoline consumption accounts for most of the projected decline for the year, shrinking by 230 thousand bbl/d (2.6 percent). EIA expects total liquid fuels consumption to increase by 120 thousand bbl/d (0.6 percent) to 19.0 million bbl/d in 2012.

EIA projects that non-OPEC liquid fuels production will grow by 0.4 million bbl/d in 2011 and 1.2 million bbl/d in 2012 to an average of 53.3 million bbl/d next year. While forecast OPEC non-crude liquids production, which is not subject to production targets, is expected to increase by 0.4 million bbl/d in both 2011 and 2012, EIA expects OPEC crude oil production to remain largely unchanged in both years after having grown by 0.7 million bbl/d in 2010. Libyan crude oil production, which began to recover in September, increased from an average of 350 thousand bbl/d in October to an estimated 550 thousand bbl/d in November. Given recent developments in Libya's oil sector, EIA now expects Libyan crude oil production to rise to an average of 900 thousand bbl/d during the first quarter of 2012 and to 1.2 million bbl/d by the fourth quarter of 2012, compared with pre-disruption output of 1.65 million bbl/d.

EIA expects that OECD commercial inventories will decline in 2011 and 2012. However, because of declining consumption, days of supply (total inventories divided by average daily consumption) increases slightly, from 56.9 days in the fourth quarter of 2011 to 57.3 days in the fourth quarter of 2012.

The API data was mixed and in sync with most of the projections...including my projections but the magnitude of the changes in inventory were significantly more than the projections. The API reported a large draw in crude oil stocks versus an expectation for a modest decline in crude oil inventories of about 5.0 million barrels even as crude oil imports increased but refinery run rates also increased by 0.7%. The API reported a huge build in gasoline stocks versus projections for a modest build and a larger than expected build in distillate fuel inventories versus an expectation for a smaller build.

The market was expecting a small build in crude oil stocks and a modest build in gasoline and distillate fuel inventories this week. The report is somewhat bullish for crude oil but bearish for distillate fuel and gasoline. That said the report has not resulted in any major price action coming into the market since the data was released late yesterday afternoon. The market remains hostage to the evolving situation in Europe that has been unfolding once again this week as discussed above with inventory data a secondary driver. The API reported a build of about 5 million barrels of crude oil with a 0.6 million barrel draw in Cushing and a decline of about 1.2 million barrels in PADD 2 which is bearish for the Brent/WTI spread which has been somewhat range bound since the middle of November. On the week gasoline stocks increased by about 6 million barrels while distillate fuel stocks built by about 1.7 million barrels. The more widely watched EIA data will be released this morning. Whether or not the market will react to anything that comes out of the EIA this morning will be dependent on what revolves around Europe today.
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Oil remains mostly coupled to the direction of the USD and the euro and will remain in this pattern for the foreseeable future or until Europe moves into the background. As such I am not sure many market participants are going to pay much attention to this week's round of oil inventory data as Europe and the US are still in the midst of uncertainty suggesting that this week's oil inventory reports may not have a major impact on price direction. At the moment all market participants are continuing to follow the tick by tick direction of equities and the US dollar (driven by Europe)... as they are both the primary price drivers for oil once again. Even with the fundamentals and geopolitics starting to impact price it is the macro trade that dominates at the moment. As such this week's oil inventory report could remain a secondary price driver at best and only impact price direction if the actual EIA data is noticeably outside of the range of market expectations for the report.

My projections for this week's inventory reports are summarized in the following table. I am expecting a mixed report with a modest increase in refinery utilization rates which should result in a neutral weekly fundamental snapshot. I am expecting a modest draw in crude oil stocks with an increase in refinery utilization rates. I am expecting a modest build in gasoline inventories and another build in distillate fuel stocks. I am expecting crude oil stocks to decrease by about 0.9 million barrels. If the actual numbers are in sync with my projections the year over year deficit of crude oil will narrow to about 22.1 million barrels while the overhang versus the five year average for the same week will come in around 2.4 million barrels.

With refinery runs expected to increase by 0.4% I am expecting a modest build in gasoline stocks. Gasoline stocks are expected to increase by about 1.0 million barrels which would result in a gasoline year over year deficit of around 3.2 million barrels while the surplus versus the five year average for the same week will hold steady at around 1.9 million barrels.

Distillate fuel is projected to increase modestly by 1.0 million barrels on a combination an increase in production and a possible decrease in exports. If the actual EIA data is in sync with my distillate fuel projection inventories versus last year will likely now be about 20.7 million barrels below last year while the deficit versus the five year average will come in around 4.9 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 experienced pretty much the same directional moves as the projections for this week's inventory report. Thus based on my projections the comparison to last year will result in a minimal year over year change in inventories.
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WTI is still trading above the key technical support level of the mid- $94's/bbl and along with the changing fundamentals and geopolitics I am keeping my view and bias at cautiously bullish. In addition the cloud of uncertainty got a tad smaller over the weekend in Europe but we will have to watch Europe closely as the sentiment could change on one or more negative news snippets at any time. WTI & Brent are once again back to being in sync with the direction of the US dollar and euro but are also being driven by the ongoing geopolitical situations in the middle east.
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I am maintaining my neutral view and bias but could get interested in a short term long side trade if the spot futures contract closes above the $3.51/mmbtu level. That said I am not bullish rather I am just looking at a potential short term technically driven trade potential. The surplus that is building in inventory versus both last year and the five year average is going to get harder and harder to work off until it gets cold over a major portion of the US and as such for the medium term I am still very skeptical as to whether NG will be able to muster any kind of strong upside rally absent some very cold weather for an extended period of time.

Nat Gas staged a bit of a recovery today after falling strongly in pre market opening hours. A loss of some production in the western point of Texas due to well freeze offs contributed to a modest level of short covering. The production reduction was a tad bullish but will only be bullish if the shut-in are in place for an extended period of time. Yes the winter weather is slowly coming and is having an impact in parts of the country. But as I discussed in detail in yesterday's newsletter we will have to see normal to colder than normal temperatures over a major portion of the US before we see any kind of sustainable upside rally in Nat Gas. The latest short term forecasts from NOAA are still not very bullish, especially the eight to fourteen day forecast which is projecting above normal temperatures and only normal temperatures through the middle of the country.

Currently as a new day of trading gets underway in the US markets are mixed.

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