Column: Booming oil demand is eroding inventories

Strong oil demand as important as OPEC deal in rebalancing oil market

By John Kemp

LONDON, Nov 2 (Reuters) – Global oil consumption is growing rapidly, helping account for the decline in reported inventories, the recent surge in prices and the shift in futures markets from contango to backwardation.

Consumption is much harder to measure than production, which is why the demand side of the market receives less attention.

Even in the advanced economies, consumption data is only available with a delay of two months or more, and reliable data from emerging economies often not at all.

Global oil demand assessments are therefore often educated guesswork, as analysts try to calculate how much oil has been used and how much is in storage.

But strong consumption growth has been at least as important as the restraint of production by OPEC and non-OPEC oil exporters in helping rebalance the oil market.

Global consumption rose by 1.6 million barrels per day (b/d) in 2016 and 2.0 million b/d in 2015 as low prices and a synchronised economic expansion in most areas of the world spurred demand (“Statistical Review of World Energy”, BP, 2017).

Consumption is forecast to increase by a further 1.6 million b/d this year and 1.4 million b/d in 2018, according to the International Energy Agency (“Oil Market Report”, IEA, Oct 2017).

And predictions have been consistently revised higher as demand data has come in stronger than forecast.

STRONG DEMAND

The fragmentary information which is available in near real-time all shows consumption in the United States and around the world growing strongly.

US gasoline consumption hit a seasonal record in four of the five months between April and August, according to the U.S. Energy Information Administration (“Petroleum Supply Monthly”, EIA, Oct 2017).

Strong economic growth, cheap fuel, more driving and purchases of bigger vehicles have offset improvements in fuel economy since 2015.

US consumption of diesel has also been running consistently higher than last year, reflecting the increase in oil and gas drilling as well as more freight movements.

With demand growing at home, US refineries have been exporting record quantities of fuel to markets in Latin America and the rest of the world reflecting strong demand overseas as well as refinery problems in some emerging markets.

US exports of crude and refined fuels were approximately 750,000 b/d higher in the three months from June to August than the same period in 2016.

Increased exports included an extra 220,000 b/d of crude, 120,000 b/d of natural gas liquids, 147,000 b/d of gasoline, 225,000 b/d of distillate fuel oil and 47,000 b/d of lubricants.

MARKETS TIGHTEN

The combination of strong demand at home and record exports has cut stockpiles of gasoline and distillate significantly since the start of the year.

Stocks have drawn down much faster than normal — despiteUS refineries processing record amounts of crude most weeks since April.

US gasoline stocks have fallen by 23 million barrels since the start of the year compared with an average decline of 12 million barrels over the previous decade.

US distillate stocks have fallen by almost 34 million barrels compared with an average seasonal decline of just 2 million between 2007 and 2016.

The result is that distillate futures prices have moved into a small but persistent backwardation. Gasoline futures remain in contango, but here too the calendar spreads have been firming consistently since July.

Product prices have been rising even faster than crude as fuel markets tighten, with gross refining margins trending higher.

Higher margins should encourage refineries to maximise seasonal runs and spread the current tightness from products into crude stocks.

In this context, OPEC has been “leaning into the wind” by restraining production while demand growth absorbs excess inventories inherited from the slump in 2014-2016.

OPEC estimates excess OECD oil stocks have already been reduced by around 180 million barrels since the start of the year, but were still 160 million barrels above the five-year average in September (“JMMC reports highest conformity level ever,” OPEC, Oct. 21).

Most of the remaining surplus is concentrated in crude rather than products, with crude stocks 146 million barrels above the five-year average but product stocks only 25 million barrels over in August (“Monthly Oil Market Report,” OPEC, Oct. 11).

However, tight product markets and strong refining margins should incentivise high refinery run rates and cause crude markets to tighten further in the months ahead.

Related columns:

“Oil market set to move from rebalancing to tightening”, Reuters, Oct. 30

“OPEC must think about exit strategy”, Reuters, Oct. 25

“Feast or famine? Oil market in 2018“, Reuters, Oct. 10

(Editing by Alexander Smith)

John Kemp is a Reuters market analyst. The views expressed are his own.