By Brian L. Milne, Refined Fuels Editor, Telvent DTN
Understanding the market movements for energy commodities in 2009 has become complicated. The old way of looking at the market through the lens of supply and demand seems to hold less relevance. Now, broad-based economic indicators are overruling an inventory buildup or a slump in demand.
For a long time, the relative strength or weakness of the U.S. dollar has been a factor in energy commodity markets, and has recently become increasingly important. A rally by crude oil futures from April through early June was driven primarily by the weakness in the U.S. Dollar Index, which hit a 2009 low on June 3.
The weakening dollar was the primary support for crude oil’s ascent above $100 per barrel in 2008, and it will continue to dictate direction, to some extent, in crude oil. With the commercial supply of crude oil in the U.S. reaching a 19-year high, and global demand expected to post two consecutive years with a lower consumption rate than the previous year for the first time in 25 years, it’s difficult to rationalize why crude oil crested over $70 per barrel.
Gasoline demand has dropped 0.8% year-to-date, but did experience an increase in late May through early June. Demand is expected to end the year slightly higher, but keep in mind we’re comparing it to weak consumption for the same period in 2008, which had fallen 3.5 percent versus demand in 2007.
Supply is beginning to build despite refiners’ attempts to limit the increase. Imports could pose a problem for this strategy, potentially extending the inventory rebuilding this summer if demand does indeed flag. Refiners have been disciplined and they’re looking to match constrained demand with lower output.
Outlook for the Remainder of Summer
Wholesale gasoline prices across the U.S. fell sharply through early July amidst a shift in market sentiment which dampened enthusiasm in a robust economic recovery. This suggests demand for gasoline will remain tepid throughout the summer. In fact, data released by the U.S. government shows that summer gasoline demand has failed to outpace rising production and increased imports, which in turn has prompted supply building – the opposite of what typically occurs during this time of year.
Demand for gasoline peaks during the summer months as Americans take to the highways for vacations. Implied gasoline demand is running ahead of last year at this time, but the 2008 consumption rate was constrained through conservation as retail prices spiked to all-time record highs and due to the impact of the then unclassified U.S. recession that had entered its eighth month.
The key catalyst for the change in psychology was attributed to data released in late June and early July that shows the American consumer is not as confident as many investors and speculators thought they would be by this time. This shift has been on display in the stock market, with the S&P 500 and Dow Jones Industrial Average both sliding from June highs, knocked lower primarily by ongoing weakness in the job market.
Historically climbing unemployment has cut into demand for gasoline as less people make the roundtrip from work to home. There had been expectations that stressed consumers would offset the loss in demand by taking vacations. However, the data shows that concern over household finances are prompting more Americans to save and reduce their discretionary spending–including summer road trips.
Moreover, the rapid increase in gasoline prices in the second quarter has siphoned more cash from consumer pocketbooks, reducing personal discretionary spending which has a direct impact on gasoline demand.
Expect Price Drops
Retail prices have likely hit their highs this summer barring any unforeseen supply disruption. The pass-though savings from the wholesale markets will gradually work its way to retail pumps nationally.
However, the lows are also in, and consumers should not expect pump prices to fall below $2 gallon. Crude oil and gasoline prices are driven by expectations of what will happen, so a rebounding stock market will engender hopes of an economic recovery that will, in turn, suggest demand for energy will increase.
Additionally, the U.S. dollar is expected to remain under pressure as the federal government adds to the country’s fiscal deficit for its stimulus package. These macroeconomic forces will limit the downside for gasoline prices.
Omaha, Neb.-based DTN, a division of Telvent, is the leading business information services company focused on agricultural, energy and environmental markets. The company delivers business critical information to more than 700,000 subscribers across its vertical markets. For more information about DTN visit www.dtn.com.