Hyperinflation Hits Hydrocarbons
Brent topped $75.00/barrel this week but crude market strength pales in comparison to what has unfolded in global fuel, natural gas and power markets, likewise other hard commodities like aluminum, copper, and steel. In Asia, the long-term center of global oil demand growth, prompt premiums for gas, oil and jet supplies in Singapore have jumped to their highest level since the pandemic began.
In the US, prompt crack spreads for both CME diesel and RBOB (gasoline) continue to trade near $20.00/barrel, or multi-year highs, as the market reckons with struggling refineries, product inventory well below the five-year average globally, and demand that continues to outpace expectations. During the past month total US product supplied, well above 21 million BPD as reported by the EIA, has come close to matching the all-time highs reached in 2019. Both OPEC and the IEA this week said demand was on track to reach 100 million bpd within months.
Parabolic Rise for Natural Gas
The front of the NYMEX natural gas curve has been the hottest topic in the sphere of hydrocarbon markets over the past couple of weeks with the nearby contract (October ’21) rising to a seasonal level which was last seen in 2007, or almost 15 years ago. Cal skew in the upcoming winter withdrawal season (Nov ’21-Mar’22) has exploded, and the oft-referenced Mar/Apr ’22 spread is near +$1.25/MMBtu. Steep backwardation, and $5.00+ gas through the winter is a paradigm of concern for both the unhedged consumer and the heavily hedged producer.
In the current pricing environment, and with a decade of prolific production growth in mind, the domestic natural gas market is understandably contemplating how long elevated pricing will be around. The winter strip is presently north of $5.25/MMBtu, Cal 22 is squarely above $4.00, and even Cal 23 (more than 2 years out) is above the $3.25 mark. The oil and gas world has a propensity to think of supply and demand in a world of static margins for consumers of hydrocarbons. Levels at price elastic demand begins to peel back is a function of margins not a specific price per MMBtu, barrel, or gallon.
Consider the following three data points: Copper is trading at the highest levels seen in ten years, hot-rolled coil is at all-time highs, and European power is has climbed to multi-decadal highs. The concept that natural gas prices are too high, and demand destruction of market balancing proportion is eminent, fails to consider the margins generated in the above areas in addition to sectors like the plastics market and fertilizer market.
Broader Implications of Net Zero Push
In Europe, tight supplies and skyrocketing prices are evident across natural gas and power markets. The situation in the UK worsened when a key power connector with France shut down due to a fire. Reports indicate the UK is now bringing back gas-fired capacity to deal with these shortfalls, but this, in turn, is diverting supplies away from industry with factories forced to shutter.
This follows news late last Friday that US president Biden issued an emergency executive order allowing gas-fired power plants in California to operate without pollution restrictions. This follows written requests by the California grid operator, the California Independent System Operator (CAISO), to US Secretary of Energy Jenifer Granholm requesting waivers to ensure there will be enough power to keep the lights on in the state. This is the second year in a row California ISO officials sought a federal pollution waiver. Prior to 2020, no waiver had been requested since the infamous power crisis in 2000 under Governor Gray Davis, which eventually saw the then Governor of California lose a recall election.