Week Ending August 18

Tight Supplies Persist, Yet Oil's Seven-Week Rally Halts

Oil futures posted their first weekly loss since June as low trading volumes made the market susceptible to macroeconomic concerns despite signs of tight supply. September ’23 WTI contract lost $1.94, or 2.2%, on the week to finish at $81.25/Bbl.

Renewed worries about China’s property sector, as well as China’s economy more broadly, have dampened the economic growth optimism. China's economic data for July reveals falling credit demand and declines in both industrial output and retail sales. In response, authorities have cut key policy rates, the People's Bank of China increased short-term cash injections and urged investment funds to limit equity selling.

Growing optimism about the possibility of a ‘soft or no-landing' economic scenario in addition to OPEC+ cuts pushed oil to a 2023 high last week. However, expectations of a slightly hawkish turn in the Fed’s policy have heightened concerns that stringent measures could stifle growth. Such an outcome could weigh on the demand outlook.

Furthermore, the US dollar recorded its fifth straight weekly gain, the longest in over a year, making dollar-denominated commodities more expensive for foreign buyers.

Despite the growing bearish macro sentiment, fundamentals, i.e., supply-demand balance, remain bullish. OPEC+ reduced production by 1.22 MMBbl/d in July, marking a two-year low. Meanwhile, backwardation in oil markets is at its widest level since April, and as of June, OECD inventories are 115.4 MMBbl below the five-year average.

Given OPEC+'s extended production cuts, our bullish outlook is based on the expectation of rising prices as supply-demand dynamics indicate a tight market due to more significant inventory drawdowns.

AEGIS recommends costless collars for adding oil hedges, allowing for upside potential in line with our bullish outlook. Given each portfolio’s unique needs and risks, we encourage you to consult your strategist to identify your most suitable strategies.

Mountain Valley Pipeline Could Face Another Setback While California Prepares For a Major Storm.

Gas prices finished the week lower by 21.9c or 7.8% to $2.551/MMbtu. This was a significant reversal from last week's rally and puts the market near the bottom of the range it has been trading in since June. Prices across the curve gave up gains, with the Winter ‘23/’24 strip losing 13c to finish at $3.62/MMbtu, and the Summer ’24 strip falling by 7c to $3.23/MMbtu.

Despite a series of wins in US federal courts and the Supreme Court, Mountain Valley Pipeline has encountered another potential setback. This time the US Pipeline and Hazardous Material Safety Administration, or PHMSA, has ordered the beleaguered pipeline to undergo a series of safety tests. The regulatory group called into question the safety of the pipeline due to the long periods of time in which sections of the pipe sat outside exposed to ultraviolet radiation. They added further that some sections had been buried without certain corrosion protections installed, and they observed pipe that had been placed in “a rock-laden trench without adequate support.”

Equitrans has said they intend to work closely with regulators to bring the 2 Bcf/d Appalachian pipeline into service by their end-of-year target date.

On the West Coast, a rare weather event threatens power sector gas demand in California. A hurricane currently off the coast of western Mexico is anticipated to make landfall in southern California, although as a tropical storm or tropical depression. Despite the storm likely decreasing in intensity, the system should bring significantly cooler temperatures to the region along with heavy rains. Cooling degree days (a proxy for weather-driven gas demand) are forecast to fall to zero after averaging about six CDDs per day during the month of August so far.

AEGIS recommends hedging natural gas with swaps in the summer months and costless collars in the winter months. The swap will provide more protection, while the collar will allow for upside participation and can benefit from call options being more expensive in the winter. We continue to hold a bearish view on Bal ’23 through the second half of Cal ’24 before taking a bullish view beyond that, given the increasing demand from LNG exports.