MARKET WATCH: Weak world economies pull down energy prices

Energy prices tumbled Sept. 2 ahead of the long US holiday weekend as a result of a government report that essentially no nonfarm payroll jobs were added in August, while hiring for June and July also was revised lower.

The US “had little to celebrate” on Labor Day as the “unexpectedly dismal” jobs report renewed fears of a double-dip recession, said analysts in the Houston office of Raymond James & Associates Inc. “This information shaved 2% off of the Standard & Poor’s 500 index heading into the holiday weekend,” they said. “West Texas Intermediate and natural gas fell 3% and 4% respectively; [production] shutdowns in the Gulf of Mexico caused by Tropical Storm Lee were not enough to negate the disappointing economic news.”

While US residents were enjoying their holiday cook-outs Sept. 5, “markets around the world were dropping on the prospect of a double-dip [recession], poising the US markets to open to further losses this morning,” Raymond James analysts surmised. With US markets closed Sept. 5, investors sold their risky investments—including oil—in the Asian and European markets, registering some of the heaviest equity losses of the year.

But even if the nonfarm payrolls had lived up to investors’ low expectations, “it would not have made a big difference to the US employment picture,” said Olivier Jakob at Petromatrix in Zug, Switzerland. “There has not been since 2010 a job creation dynamic strong enough to start offsetting the [employment] losses of 2008-09.”

He said, “Payrolls in construction have not made any sort of rebound since 2010. The Federal Reserve Bank can do all it wants to improve lending conditions; it cannot overnight replace a population of home buyers that were previously allowed to buy on zero down-payment and no job certificates. Buying a house through a credit card is not allowed anymore, and it will just take many years for that burst bubble to be offset.”

Payrolls in manufacturing have improved slightly since 2010, but the search for improved efficiency is not producing a strong rebound. President Barack Obama is scheduled to announce his new job creation plan on Sept. 8. “But markets will be looking for concrete ideas, not for some vague ideas,” said Jakob. “And having concrete new ideas when budgets need to be cut is going to be a challenge.”

James Zhang at Standard New York Securities Inc., the Standard Bank Group, said, “Oil fell further as the PMI [Purchasing Managers Index] for the service sector for the European Union countries disappointed. Brent fell $2.25/bbl, while WTI’s price move will be rolled into today’s session due to the US holiday. Product cracks strengthened slightly in general on light volume. Meanwhile, Brent structure continues to climb on a number of supply disruption issues.”

Offshore workers return

The US Bureau of Ocean Energy Management, Regulation, and Enforcement reported workers were returning to some production platforms in the Gulf of Mexico in the wake of the storm. As of midday Sept. 5, there were 232 of the 617 manned platforms in the gulf without crews as were 24 of the 70 rigs previously operating in the gulf. BOEMRE also reported 61.4% of the normal oil production from the gulf and 46% of natural gas production remained shut in. That compared with 237 platforms and 23 rigs reported evacuated at midday Sept. 3, when 60.3% of oil production and 54.6% of natural gas production from the gulf were shut in.

These more recent reports were up from 69 production platforms and 16 rigs evacuated as of Sept. 2, with 47.6% of oil production and 33% of gas production from the gulf shut in. Shutting in production in advance of tropical storms and hurricanes has been a standard safety and environmental procedure practiced by the industry since it first began drilling out of sight of land in the gulf in 1947. BOEMRE confirmed in its recent reports that shut-in valves used by the industry have operated efficiently 100% of the time, including even subsea safety valves.

Jakob observed, “It will take a few more days for all the production to return to normal. Up to now, the US gulf has lost this year 3.8 million bbl of production due to precautionary shutdowns in front of weather systems, including 3.3 million bbl for Tropical Storm Lee.” Meanwhile, he said, “Katia will develop into a large hurricane but should stay in the upper Atlantic without any threat to the US East Coast; hence we fully discount it. There is a new strong tropical low that is developing off Africa that we need to monitor over coming days. It will be named Maria, but currently calculated paths are taking it also to the upper-Atlantic rather than the US gulf.”

Although Saudi Arabia has boosted its oil production, total August output among the Organization of Petroleum Exporting Countries is estimated “only 600,000 b/d higher than in January” because of loss of Libya production. “As the International Energy Agency’s inventory release comes to an end, the market appears to be tightening again. The situation is further exacerbated by a number of short-term supply disruptions,” said Zhang.

Sept. 5 “was not a pretty day in Europe,” said Jakob. “The Greek bond yields are rising to new all-time extreme high levels (the Greek 2-year bonds surged very close to 54% yesterday), but perhaps the most worrying is that despite the European Central Bank (ECB) buying the Italian bonds, the yields on Italian debt are increasing again. There are a lot of things hitting the fan currently in Europe, and the risk profile keeps on increasing. Gold is surging to new all-time highs. Given the current meltdown in Europe, we do not see how consumer or business confidence will improve on the old continent.”

There is still a risk ECB Pres. Jean-Claude Trichet may order a cut in interest rates on Sept. 8, “something that would give further support to the dollar index,” Jakob said. “The European morning is starting with the Swiss National Bank taking the nuclear option with a statement that it ‘will not tolerate a euro-Swiss franc [exchange rate] below 1.20 and is ready to buy foreign currency in unlimited quantities.’ The euro is therefore surging vs. the Swiss franc, which in turn is providing some support on the Euro vs. the dollar. In our opinion, this has in turn pushed some automated computer buying in crude oil. We would therefore approach the early support on crude oil with some caution as an oil rally induced by the action on the euro-Swiss franc would be a crude oil rally for the wrong reason.”

Economic outlook

The Sept. 6 US nonmanufacturing ISM survey “is likely to be soft, judging by the 3,000 employment rise in the US service sector reported Sept. 2,” Zhang said. “The market is looking for a reading of 51, which would be the lowest since January 2010. We think that the risks to the release still lie on the downside, which could imply more weakness for the oil market.”

The focus this week will be on fiscal and monetary policy responses to the continued economic slowdown. The ECB and Bank of England (BOE) have scheduled their respective rate-setting meetings for Sept. 8. “The ECB is set to retreat from their hawkish stance, while the BOE will be debating further policy easing. Across the Atlantic, the US president is to lay out a job creation plan, with focus likely to be on infrastructure investment,” said Zhang.

“We see the current tightness in the physical oil market caused by supply issues holding the oil price up to some extent, while the market waits for these monetary and fiscal policy responses. However, should those upcoming policy responses fail to revive the economy, weak demand could quickly take over and become the driving factor in the oil market,” he predicted.

Earlier, Zhang said, “Risk-aversion in the oil market is likely to be fleeting, as the market continues to draw support from the likelihood of QE3 [a third round of quantitative easing by the US Federal Reserve to stimulate the US economy] and supply-risks amid the ongoing hurricane season.” He said, “For now, the macroevents continue to drive the oil market, while fundamentals point to a tight physical market as signified by very steep backwardation in Brent crude for the nearby months.”

So far, however, “QE1, QE Light, [and] QE3 have not made an ounce of difference,” in the US economic recovery, said Jakob. With “new lawsuits against major investment banks by the US Federal Housing Finance Agency and the Fed asking Bank of America for its contingency plans, we are not out of the vicious negative spiral for the banking sector,” he said.

The Brent structure at the front-end of the futures market curve strengthened amid significant delays in Forties cargoes at the North Sea and hurricane risks in the US. “Net for last week, WTI and Brent actually gained $1.08/bbl and 97¢/bbl respectively, as risk appetite was boosted to some extent by the increased possibility of QE3 from the Fed. In addition, the US Institute for Supply Management (ISM) manufacturing survey printed above 50 and personal spending exceeded expectation. The oil market also received an extra boost from the ongoing hurricane season. Nevertheless, the risk of oil prices from the macroeconomic environment remains on the downside,” Zhang said.

Rig count growth

Meanwhile, Raymond James analysts said the US rig count is poised to grow faster than market expectations as long as oil stays above $70/bbl. “Even though our April rig count forecast was bullish relative to consensus at the time, it substantially underestimated the recent increase in oil-directed drilling and modestly underestimated the resilience of gas drilling in the US. Accordingly, we are raising our overall 2011 US rig count forecast by 4% to 1,881 rigs. This represents a year-over-year (average) increase in total rigs of 22% or 335 rigs. More specifically, we now anticipate the 2011 oil rig count to grow 375 rigs (or up 67% year-over-year) and the gas rig count to fall only 60 rigs (or 6% year-over-year). We believe horizontal activity in both oil and gas will continue to lead growth,” they said.

In 2012 and beyond, they said, “We expect oil drilling to continue to increase while gas activity continues to drift slowly lower. As such, we are raising our (average) 2012 rig count forecast by 10% to 2,172 rigs (up 15% year-over-year or another 300 rigs). This includes 1,360 oil rigs (up 38% year-over-year) and 800 gas rigs (down 9% year-over-year). Beyond 2012, we anticipate that drilling activity will continue to march upward, driven by strong oil prices, outstanding horizontal oil returns, and numerous undrilled oily prospects. That means the US should see the rig count grow by roughly 10% annually from 2012 to 2015. We should remind investors that while this outlook does assume a slowing global economy, it does not assume another 2008-type financial meltdown.”

Analysts at KBC Energy Economics, a division of KBC Advanced Technologies PLC, noted, “Brent on the ICE dropped to almost $102.60/bbl on Aug. 9 from $116.80/bbl on Aug. 1, then recovered to around $114/bbl on the last day of the month and at the time of writing [for Sept. 2] is trading at $112.25/bbl.”

The downgrade of US debt triggered that price fall “although the market continues to worry about the health of Euro-zone economies,” the analysts said. “Despite all the doom and gloom, Brent remains much stronger than all key crude benchmarks. While the shutdown of Libyan output has given some upward impetus to the European crude market, declining oil production in the North Sea has been a well-known fact behind the North Sea crude benchmark, Brent’s structural strength. UK oil (crude and NGL) production has declined to around 1.3 million b/d from its peak of 2.88 million b/d in 1999.”

They said, “Similarly, Norwegian oil output has dropped to levels below 2.15 million b/d from its peak of 3.4 million b/d in 2001. This trend has forced some oil majors to sell their North Sea assets to concentrate on high-growth acreage in other parts of the world. Recent increases in the UK supplementary corporate tax for oil and gas companies has been considered as ‘punitive’ by several oil companies, further impacting investments in the upstream sector in the region.”

Energy prices

The October contract for benchmark US sweet, light crudes dropped $2.48 to $86.45/bbl Sept. 2 on the New York Mercantile Exchange. The November contract fell $2.50 to $86.74/bbl. On the US spot market, WTI at Cushing, Okla., was down $2.48 to $86.45/bbl.

Heating oil for October delivery lost 5.44¢ to $3/gal on NYMEX. Reformulated blend stock for oxygenate blending for the same month declined 5.31¢ to $2.94/gal.

The October contract for natural gas tumbled 17.8¢ to $3.87/MMbtu on NYMEX. On the US spot market, gas at Henry Hub, La., decreased 7.2¢ to $4.10/MMbtu.

In London, the October IPE contract for North Sea Brent dropped $1.96 to $112.33/bbl. Gas oil for September lost $14.75 to $951.75/tonne.

The average price for OPEC’s basket of 12 benchmark crudes declined 84¢ to $110.37/bbl on Sept. 2, then dropped to $108.42/bbl Sept. 5. So far this year, the OPEC basket price has averaged $107.31/bbl.

Contact Sam Fletcher at

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