Week Ending December 9

G7 implements a $60/Bbl price cap on Russian crude; Moscow threatens production cuts

The prompt-month (Jan’ 23) WTI contract lost $8.96 this week and settled on Friday at $71.02/Bbl, its lowest in nearly a year. Prices have been weak, but a major risk is now in play.

A price cap of $60/Bbl on Russian crude was enforced on Monday, December 5, by the G7 coalition and the EU. According to the price cap, Russia can only export crude oil, ship it, and insure it using the services of European companies if it sells it for $60/Bbl or less.

Moscow responded to the cap by saying it would not sell oil under the cap and that it was mulling an appropriate response. Bloomberg reported that Moscow is considering setting a fixed price floor for its international oil sales or setting maximum discounts to international benchmarks at which they can be sold. Russia can also retaliate by halting pipeline deliveries to the EU or cutting production.

Either way, the cap has caused disruption in shipping in Turkish waters and is expected to cause more as it is amended in mid-January. AEGIS sees a risk of market tightening as the repercussions of the price cap can coincide with China reopening and the Biden administration’s plan to refill the SPR.

But, despite the bullish risk of Russian production decreases, WTI  has lost all its gains since the beginning of the Ukraine war. Demand concerns continue to outweigh China’s reopening, disruption of US crude flows, and the potential impact of the aforementioned price cap.

China announced significant revisions to its strict zero-Covid policy on Wednesday. The changes include dropping testing for domestic travelers and allowing infected individuals with mild symptoms to quarantine at home, indicating Beijing is shifting away from its zero-COVID policy.

Keystone pipeline shut down on Wednesday after an oil leak was detected 20 miles outside Steele City, Nebraska. TC Energy has declared a force majeure on the 0.622 MMBbl/d pipeline and plans to partially restart on Dec 10. The shutdown will limit deliveries of Canadian crude to the Gulf, where it is processed by refineries or exported, as well as to the U.S. storage hub in Cushing, Oklahoma.

Give it time; we expect limited supply to be insufficient for even modest demand gains in 2023-2024. AEGIS hedging recommendations for crude oil remain costless collars as the risk in 2023 and 2024 is to the upside. A collar would set a price floor but with a cap on upside participation if prices realize much higher than the forward curve. Costless collars are a popular way to hedge for protection while participating in some price recovery.

Frigid temperatures send U.S. West gas basis prices soaring

Natural gas prices fell only slightly this week despite milder weather forecasts and an EIA report of a surprisingly small draw in inventories for the week ending December 2. The prompt-month (Jan ’23) Henry Hub contract fell by 1.9c to settle at $5.962.

While most of the country has had relatively mild temperatures recently, frigid temperatures have rocked the U.S. West and Pacific Northwest. In fact, natural gas cash prices throughout the West are trading at huge premiums to Henry Hub.  For Friday, Sumas (Washington-Canada Border) cash was $26.145;  Malin (Northern California Border) was $26.023; SoCal (Southern California) was $26.695/MMBtu.

This bullish weather has caused residential and commercial demand to be over 2 Bcf/d higher year-over-year in the West, with little growth in local supply. This combination has caused a bid in other local or pipeline-connected markets to attract more gas to meet this demand.  Several basis prices went haywire.

On Thursday, the EIA reported a pull of 21 Bcf on total US inventories, around half the five-year average withdrawal of 49 Bcf.  Inventories for this time of year are now almost equivalent to the five-year average. While there is still plenty of time left in winter, inventories appear high enough that a supply-scarcity event is unlikely.

Our view is neutral for this winter; barring extreme cold, this market is on track to be adequately supplied. However, in 2023, demand growth is forecast to be minimal, meaning that if production grows, this market may need to move lower to encourage more demand to find a home for those volumes.

Our standard hedging recommendation is costless collars for most clients. Swaps are better if you need more protection or are concerned (as we are) that 2023-2024 prices could be weak. If you’re unsure which is best, we can explain a set of steps that can clarify the choice.