[ihc-hide-content ihc_mb_type="show" ihc_mb_who="10,13,14,16,18,19" ihc_mb_template="1"] By Mark Rossano Summary Hurricane Delta ImpactsFrac Spread Count UpdateRefined Product and Oil GlutSpending in China Dips Putting Pressure on Oil/Refined Product Demand- Issues Expanding in Other Nations as COVID Cases Make a New RecordU.S. Supply Chain Slowing DownDistillate Demand Points to More Problems AheadFloating Storage Remains Elevated as we Head into Peak Shoulder SeasonSaudi Arabia Crude Supply GrowsRussian Production Still Growing as Exports Set to RiseOPEC+ Cheaters Still Running HardEconomic Backdrop Remains Dim Food Prices Heading Higher as Global Shortages PersistGeo-political Roundup Hurricane Delta Impacts Hurricane Delta is set to strike Louisiana’s Coast with storm surges expected across most of the LA coastline. There has been a reduction of about 91.53% of crude production totaling 1.69M barrels a day as well as 1.675 bcf a day of natural gas or 61.82% of production. A total of 180 platforms have been evacuated ahead of the storm. The storm weakened after it made landfall in Mexico from a 2 to a 1, but expectations are for it to gain some steam and will make landfall as a 2 based on recharging in the Gulf of Mexico. Refiners have also adjusted operations in the area with PSX delaying the restart of Lake Charles and others reducing runs ahead of Hurricane Delta. Typically, crude production returns a little bit faster vs refiners because the platforms are built to handle these type of storms- but refiners have to worry about power outages, feedstock availability, and safety of workers on the ground. These differences result in additional builds in crude while we see some elevated draws out of refined product storage (which would be welcomed in the current environment.) Another key factor is the passage of vessels throughout our ports that must avoid the path of the storm and wait for the “all clear” issued by the pilots in each port/channel/ river. The delays getting boats into docks will also limit the total flow of products and crude, which will exacerbate any issues that may persist onshore because of power loss. Weather is always a transitory event and will be smoothed over quickly once the storm passes but the length of time can vary just based on the path and strength of the storm. Hurricane Delta will cause some disruption, but many of them will be short lived due to its speed and strength. The disruptions in the market will be felt the most in PADD 3 with adjustments reacting in crude/ product storage and refinery utilization rates. We should see product draws, but the slowing demand will limit the total draw out of storage. The reduced runs that have persisted along the Gulf of Mexico have kept storage well above seasonal norms and at all-time highs for the year. The below data shows how quickly and at times hurricanes or other disruptions are near impossible to find. DOE Crude Oil Inventory Data/District 3 Instead- they can be more pronounced in the refinery throughput as we can see below. The big dip in September were caused by Hurricanes in 2005 and 2008, which reversed fairly quickly. The chart looks at the millions of crude barrels refined each day along the Gulf of Mexico. We are sitting right at the average 27-year average, and Hurricane Laura was the result of the swift drop lower. We have recovered only half of that drop because Laura came right at the start of shoulder season, and instead of ramping back up maintained reduced runs. The overall sector is facing pressure as margins are depressed due to struggling differentials and slow downstream demand. We have also seen additions to the Gulf Coast refining space so by averaging something this low is actually “worse” versus what is presented when we consider the measure by barrels. DOE Crude Oil Refinery Input Data/PADD 3 Refining runs will be under additional pressure as the international market remains oversaturated with products (especially distillate), which will reduce exports. The impacts of slowing exports (oil and refined product) and reduced run rates across the whole refining complex is pushing more oil into Cushing. The steady level of U.S. production mixed with slowing exports and refinery runs will keep more crude heading into Cushing. We will need to either see production slow or prices fall further in order to incentivize more oil to be exported into the global market. At the current spread level, Europe flows will be minimal with slowing demand from Asia as prices are no longer advantageous. DOE Cushing Oklahoma Crude Oil Total Stocks Data We expect to see U.S. production exit 2020 at about 10.5M – 10.6M barrels, which accounts for about 500k-600k barrels a day to decline off of the current levels. The impacts of decline curves are being addressed in the short term, but the full impact can’t be reversed without fresh activity. The dip came specifically from shut-ins that were quickly reversed as prices recovered off the lows. The shift lower was driven from the onset of lockdowns and spreading COVID-19, but as we came into June U.S. production stabilized and will hold around these levels as more spreads are activated. So far- we have about 111 active spreads in the market, but to truly stem the declines in production we will need to see about 150-160 oil spreads. This is also factoring in dual stim setups- which just means that the ability to slow the decline curve is running out. The industry is working with a mixture of new completions, refracs, and workovers to find ways to stem the decline- which is right now more heavily weighted to work-overs and other low hanging fruit. These options can only last so long before the need for fresh production takes over and based on the backdrop- that will set-in around Q3’21. Prices need to recover to a point to incentivize a bigger increase in activity otherwise we will start to see the full effect of decline curves setting in on volumes. United States DOE Crude Oil Total Production Data Frac Spread Count Update The frac spread count has shifted higher much quicker versus our expectations as the activity we saw happening over the course of Oct was pulled forward to the first two weeks of the month. The rolling 4-week average is now at 97 with the most recent data point (Oct-2 came in at 111). We have discussed activity ramping in the Permian, Eagle Ford, and Bakken- but the assumption was a slower roll out over the month of Oct. Instead, we had a quick push to activate as E&Ps manage decline curves and look to protect production as we head into 2021. Pressure remains given the current pricing structures not only in the U.S. but abroad that will weigh on total exports through the remainder of 2020. The lack of export demand and reduced refinery utilization rates will push more U.S. oil into storage- specifically Cushing and PADD 3 (the Gulf of Mexico). New activations will slow through the remainder of Oct with Bakken and Eagle Ford additions already realized, but we expect to see some more activity coming into the Permian over the next few weeks. The Permian is on track to see another 6-7 crews activated over the next 3 weeks as E&Ps look to complete wells that will help bridge the decline curve while being “close” to economic. It is difficult to get well economics to a point of real return, but the failure to slow decline curves now will only exacerbate spending in 2021. Essentially- lose some money now to make more money when the price of oil shifts higher. The chart above looking at U.S. production helps to demonstrate where E&Ps are looking to hold firm. The first dip was driven by shut-ins, and the bigger drop was the impacts of Hurricane Laura. Something similar will be realized with 91.5% of Gulf of Mexico shut-in, but those shut-ins are measured in days or at a maximum 2-3 weeks. Cushing, OK continues to see inflows as flow is pushed away from refiners and exports remaining under pressure. Exports have been averaging close to the 2019 levels, but pressure will persist through the next few weeks as competition mounts into Europe and Asia flow slows. We saw big purchases from China (which we talked about 2 weeks ago), which still remains but at reduced volumes starting this week. The demand will most likely remain through next week now with some areas shut down due to Hurricane Delta. Several ship channels/ ports will stop traffic starting either tonight or tomorrow, and the LOOP (Louisiana Offshore Oil Port) has already stopped operations. In order to support exports, we will need to see discounts in WTI Cushing and across the complex to get more crude into the international markets. DOE Total US Crude Oil Exports Data The current pricing structure will hinder any real returns outside of what has been hedged at elevated prices. Saudi Arabia just announced that the market “may not” be ready for an additional 2M barrels of supply in Jan of 2021. For those that have been reading our reports or watching our YouTube channel will not be surprised by this development given how weak demand has been across the board. Refined product demand remains weak across the globe pushing utilization rates lower and keeping demand for crude depressed. By supporting prices at these levels, Saudi Arabia will continue to hurt refinery margins and force additional run cuts across the complex as we get builds on a global level. Distillate/gasoil remain at all time highs in many regions driven by a sluggish global economy limiting total demand for the industrial linked fuel. U.S. crude is still being shipped into Asia (specifically China), but flow into Europe will be depressed- if not- non-existent due to a rise in total competition. The below pricing metrics will keep crude flow limited on the outlets given the tightening of spreads in the international markets. The spread between Brent vs LLS is $.97 and close to our view it will get back to $1-$1.25- but it won’t be enough to drive additional demand into Europe. The other metric to watch is MEH (Magellan East Houston) which sits at $1.74, and while better doesn’t really move the needle into Europe. Competition has been increasing into the European markets with Libya ramping back to our guidance of 360k barrels by Oct 10 and according to the local NOC (National Oil Company) reaching 390k barrels by the end of Oct. Libya coming back online is also pressured with Saudi cutting prices into the Mediterranean and northwest Europe. Urals have also traded at one-month lows into Europe as pressure mounts in the region even with a Norwegian strike impacting about 330k barrels of oil equivalent or about 80k barrels of direct oil per day. Refined Product and Oil Glut The growing glut of refined products in Europe and rising COVID cases in the U.K, France, and Spain will limit demand for crude as storage rises across the board. The breakdown below helps to show how Saudi has adjusted their Official Selling Prices (OSPs) into different areas of the world. Europe saw the steepest declines of $.30-$.50 with a small increase of light crude into Asia of $.10-$.30 but still trading at a discount into Asia. The shift in pricing reflects changing demand segments with more pressure in Europe- while Asian demand remains lackluster after China has reduced purchasing and Japan has reduced following their increase in spot buying. Floating storage remains elevated across the global systems with refiners at reduced run rates. The current backdrop isn’t supportive for pricing, and now (finally) Saudi is saying that “maybe” the market isn’t ready for another 2M barrels of oil a day in Jan of 2021. The problem with this statement is- many countries within OPEC+ are struggling under the weight of falling foreign reserves and budget deficits. Many have already cut subsidies, reduced proxy wars, delayed investments, received agreements from creditors to delay interest payments, or received fresh cash injections from either the IMF or open market. This has led countries to either “cheat”, compete more on pricing, or reduce storage Pricing into Asia has seen some adjustments but remains below the spike we saw in July/Aug as competition stays strong with slowing activity and elevated storage- onshore and offshore. Floating storage paused on the shifts lower as more volumes showed up from the U.S., Brazil, and OPEC+ nations. The below stability also comes at a time when Japan brought a significant amount of crude off the water, which will be backfilled with recent spot purchases. “Japan Weekly Inventory Change (units: 1000 barrels) Crude Oil +5,691 Light Distillates +1,008 Middle Distillates +848 Heavy & Residues -303 Total Distillates +1,553 Total (Crude + Distillates) +7,243 Source: PAJ” The pressure is also mounting within China that still remains at about 73% of total onshore utilization with refiners reducing operations as product storage remains a problem. Asian Crude Floating Storage Shandong is a key location to look at when accounting for Teapot (independent) refiners in China. The independent refiners have consumed a large portion of their import quotas, and we have both state owned and independent facilities facing a slow down in demand. This is causing run cuts across the whole nation. Onshore storage still remains around 73% with little in the way of clearing the glut as State Owned Enterprises (SOEs) reduced runs. China Shandong Crude Stock Shandong Weekly Runs have been reduced across the board- so when we factor in falling demand and large amounts of offshore storage- it will be hard to see additional demand into the region. Runs are falling within Shandong as the SOEs have trimmed about 5% across all regions with other spots seeing a 10% hit across the board. Spending in China Dips Putting Pressure on Oil/Refined Product Demand- Issues Expanding in Other Nations as COVID Cases Make a New Record We have been highlighting how China was facing a slowdown as their trade partners struggled and spending with-in the country remained well off of pre-COVD levels. (We have more charts on it later in the report) “Yet travel spending is still way off from last year. Tourism revenue during the first half of Golden Week was down 31% from the same period in 2019. Partly that’s because some social-distancing measures like visitor caps in tourist attractions are still in place, but spending per trip was also down 12%, indicating consumers are still cautious.[1] This has been confirmed by several sources, and is inline with some of the data points we have been talking about since last week-“ China recorded 637 mln tourist trips in the National Day holiday, about 79% of that seen a year earlier, and tourism revenue amounted to 466.56 bn yuan, about 69.9% of that a year ago, according to the Ministry of Culture and Tourism.” The local consumer is struggling, which has appeared in the reduction of imports, travel, and general purchases. Driving recovered but as we see Golden Week now in full effect- staycations- or at least limited travel is the new normal in the country. Many cities showed a big drop off in travel with the whole country seeing a drop from +9% to -36% over a 7 day period. This will be something to watch over the coming weeks-especially as the country experiences a slow down in general activity. General driving demand has shifted lower across the board as COVID cases increase (today being the large since the outbreak began). The rise in cases will change the way people drive and conduct business- not because it is mandated, but due to individuals looking to avoid unnecessary exposure. COVID cases just set a daily record of 338,779 new cases worldwide, the biggest one-day increase on record, according to WHO and 5,514 new deaths. Cases are spiking in several key US states that are resulting in a reduction of activity, but as fall turns to winter- we will inherently see an increase that will limit total consumer activity. For example, if you are in an area that is experiencing a rise in COVID cases- will you maintain your normal activities or adjust to avoid excess exposure? Maybe you can skip the store this week or a 2nd trip or maybe buy online for the week/ month instead of the additional risk. There are very low-level adjustments that add up resulting in a decline in total activity. As winter sets in and most activities are forced indoors across the Northern Hemisphere COVID cases will remain a problem. We haven’t even hit winter, and we are already seeing a lot of spikes in the U.S. Northeast, U.K., Spain, France, and a growing number in Germany. If we just look at the U.S. for example, driving demand has started to slow down this week as additional increases of COVID have impacted some driving and people finish preparing for Hurricane Delta in key driving regions. There was a nice pop in demand that originated at the refiner/storage level, but also at the consumer level as we saw with GasBuddy. “According to Pay with GasBuddy data, Tuesday gasoline demand was up 1.1% WoW, making it 8 straight days of positive WoW numbers. For Sun-Tue, we're up 1.9% versus the same period last week. EIA shows implied gasoline demand rose 4.3% last week, while Pay with GasBuddy data showed retail gasoline demand rose 3.24%. Both in agreement.” We had about 8 straight days of daily increases week over week, which helped move more product through the system. The pressure is now mounting in some key COVID hotspots and Hurricane Delta that will slow the demand for this week and next. DOE Motor Gasoline Total Product Demand The below shows the steady demand at the consumer level. It is also important to distinguish the two: the EIA is capturing the refiner to storage to the rack (loading center), while GasBuddy is picking up the actual consumer at the pump. The increase in demand is net/net a positive, but we still see some additional headwinds that will remain in the system. The fluctuating cases will be a headwind throughout the remainder of Q4’20 and Q1’21. Consumers are shifting habits across the board: blended work scheduled, little to no business travel, more online shopping, and general reductions in travel/purchases driven by limited job security and/or unemployed. U.S. Supply Chain Slowing Down he shifts are happening globally as people adjust their activities resulting in lower demand for gasoline, diesel, and jet fuel. The impacts can be seen/felt in the chart above, but also the general slowdown in activity results in less goods needed throughout the supply chain. Supply chains are finally starting to catch-up, which can be seen with inventories rising at the company level. The below chart shows a big slow down (below estimates) of manufacturers new orders as consumers have slowed down purchasing and orders have now been fulfilled. We also had merchant wholesaler inventory come in above expectations- all of this helping to paint the picture of a restocked supply chain. Imports will start to slow down, which will help adjust the painful trade imbalance as exports remain weak outside of commodities. Grain exports will stay robust as pricing incentivizes the export, and at these levels we will see some product getting pulled from storage. US Manufacturers New Orders and Merchant Wholesalers Inventory The trade imbalance is near peak levels as imports surged to close the supply chain gap that was created by supply chain disruptions. As the imports have risen, we have seen exports remain under pressure as the global market is still reeling from COVID and general economic slowness. The aggregate of trade data still remains depressed, but some surprises to estimates did come from key bellwethers- Germany and South Korea. The concern remains imports are low and limited follow through on demand will keep flows depressed well into 2021. Even as we see some strong spikes in exports, we are failing to see a large reciprocating increase in imports really anywhere in the world. The problem is multi-fold, but a clear starting point is the impact COVID has had on the shipping sector. US Trade Balance of Goods and Services The volume of goods arriving at U.S. ports in the four weeks through September 24 is down 9% from January levels The shipping sector has seen an increase of ships due to COVID logistical issues that have been created by disruptions. Sailors are unable to disembark at port, containers don’t have any backhaul and sit at port, in other ports there aren’t enough containers, and ships are unloaded slowly due to limited personnel or capacity to move containers (not enough trucks/ rail/barges). These limitations are delaying the timely movement of vessels, and some companies have responded by adding capacity into the system. The below chart shows how shipment from China to U.S/Europe have shifted to the highs while shipments going the opposite way lag considerably. This is proving to be a problem with empty containers at port, but also helps to drive home the fact that the Chinese consumer isn’t buying. The lack of buying within China is a growing concern, and starting to weigh on the internal metrics within the country. Distillate Demand Points to More Problems Ahead Distillate demand remains the key problem to watch in the market as it is a good gauge on general activity in the global market. Diesel consumption is a key industrial fuel used throughout the supply chain. Additional ships have been added to the supply chain driven by the supply disruptions we outlined above. We have seen additional diesel loadings in some areas of the supply chain, while others still have excess quantities of Ultra Low or Very Low Sulfur Diesel. Europe has seen a rising quantity of distillate imports coming from Asia and MENA, but they are hitting the European market just as demand falls off and cargoes appear. Some volume is even skipping Europe and heading into the East Coast (PADD1). Typically, the U.S. exports distillate from the Gulf of Mexico into Europe, but the arbitrage flipped and now it makes sense to actually go the opposite way: Europe to U.S. (mostly PADD 1). There will be a changing tide of refined product flows as new assets come online in Asia and the Middle East. We have been discussing the rise in new refining and petrochemical capacity over the last few weeks, with OPEC projecting an increase -“Refiners globally will add a net 1.3m b/d of capacity annually through 2022.” While it is true that new capacity will be coming online, it is important to appreciate that it will force other facilities to either cut runs or shut down all together. “OPEC expects about 3.8 million b/d of new refining capacity to come online by 2022, it said in its World Oil Outlook. While that growth will slow down significantly after that, the market will not require that much capacity, OPEC said, with about 2.5 million b/d of refinery closures expected by 2025, mostly in Europe, the US and Canada.”[2] We are already seeing capacity come out of the market with some of them closing this year and other announcements slating for closures in 2021/2022. Even with the addition of capacity, many of these facilities won’t be running any where near boiler plate levels and will average reduced utilization rates. China has had a big problem with utilization rates with facilities only able to hit between 75%-85% at the SOE level- even during peak demand- as Teapots averaged between 54%-64% until COVID struck. The capacity may be added, but it is likely we will see depressed utilizations rates- especially with a prolonged slow down on a global level. The charts below help to paint a picture of the oversupply that is persisting in the market. PJK International ARA Gas Oil Inventory K Tonnes International Enterprise Singapore Oil Products Singapore Stock Data International Enterprise Singapore Middle Distillates Singapore Stock Data Demand levels remain well off the 5-year averages around the world, which is leaving more distillate in storage onshore and offshore. A cold winter could help pull additional product through the system, but even that would have limiting impacts as natural gas and propane have taken market share away from heating oil/diesel. We have had warm winters the last few years that have led to elevated levels of distillate in storage. There have been some refiners that have taken distillate and kerosene and used that mixture instead of VGO (vacuum gasoil) as a way to “recrack” products to increase the cut of gasoline. Gasoline/octane is one of the few bright spots in the U.S. refining complex, which will attract more production vs jet fuel/distillate. Floating Storage Remains Elevated as we Head into Peak Shoulder Season Floating storage is a problem on a global level at this point- especially with the Middle East seeing a rise in offshore storage. Nigeria has started selling down some additional cargoes, but will be replacing it with new production that is expected to increase through Oct and Nov. The additional volumes coming to market will push crude oil in transit higher, even as more crude is left in floating storage across MENA (Middle East-North Africa) and West Africa. As we head into peak shoulder season, we will see additional problems in the market with new supply hitting the market. This will cause an increase in storage levels, but OPEC+ has been looking at ways to “project” limited storage builds. They have attempted to achieve this by: Leaving crude in their storage facilities (KSA is at record levels of short-term storage).Refine the crude within the country and export product instead of oilSell additional barrels into more opaque markets that aren’t as easy to track The more concerning part of the charts above is the drop in oil in transit for the last few months, but we haven’t seen a meaningful decline in floating storage. The transit declines were also driven by several factors: Weather- which is transitoryOPEC+ cuts with cheaters still not meeting their obligations and KSA increasing exportsPolitical reasons that are being lifted- particularly in Libya that will deliver about 390k barrels to the market by month-end. Norway is another key factor with the strike’s potential to impact more production if a deal isn’t struck by Oct 14th. The below gives a breakdown of what could be impacted at the bottom vs the total loading schedule. There has been an increase in some floating storage around the area, so there won’t be an immediate impact unless this expands into other fields. “At present, 169 Lederne members are on strike on four platforms: Johan Sverdrup, Gudrun, and Gina Krog (all operated by Norway’s state-controlled energy giant Equinor), and Gjoa (operated by Neptune Energy). From midnight on Oct. 10, Lederne said an additional 93 members on the following platforms would also go on strike: Kristin, Oseberg Sor, Oseberg Ost (all operated by Equinor), and the Ekofisk Bravo/Kilo installation (run by U.S. producer ConocoPhillips).” “Equinor on Wednesday warned that “if the ongoing strike on the Norwegian continental shelf continues until 14 October, the Johan Sverdrup field in the North Sea will have to close production until further notice.” The Oct 14th deadline would be a bigger problem given the size of the field that only recently came into operation.[3] At the moment, Libya is essentially offsetting the loss of Norway as pricing at the physical level have yet to reflect the adjustments. It is important to appreciate as well that Norway was projected to load an amount of oil not seen since 2012. Just based on the chart below (white bars) you can see the growth has been robust and once the strike is over- the crude will quickly come back to an oversupplied market. Another key impact to U.S. exports into Europe is the rise of storage in the North Sea and Europe. It is still well-off peak levels, but it is moving in the wrong direction even as the Norwegian strike is ongoing. The U.S. Gulf numbers will drop to zero due to the calculation- a vessel is deemed floating storage when it hasn’t moved in 7 days- and with Hurricane Delta approaching all vessels have had to move out of its path. The bigger focal point will be the rise in North Sea and Europe floating storage to see if it continues to shift higher. Saudi Arabia Crude Supply Grows Saudi Arabia had an increase of total flow over the last month, which more than offset the decline in UAE output. “Preliminary Argus tracking data show that crude exports from Saudi crude terminals — excluding production from the Neutral Zone that Riyadh shares with Kuwait — rose by 291,000 b/d on the month to 6.173mn b/d in September, a four-month high. Under the Opec+ output agreement, Saudi Arabia's production is limited to 8.99mn b/d until the end of this year, and then to 9.495mn b/d in 2021.” Based on different estimates, KSA has pumped anywhere from 8.96 to 9.01 barrels a day for September- but more of it has been entering onshore storage facilities. On a global level, KSA owns close to 500-600M barrels in storage, but more short-term storage levels (near docks on the coast) sit at about 85M. “Exports from Saudi Arabia rose by more than 480,000 barrels a day, almost exactly offsetting the drop in shipments from the UAE last month. Kuwait and Iraq increased flows by smaller amounts. The four nations shipped a total of 13.61 million barrels a day of crude and condensate last month, up by 164,000 barrels a day from August, tanker-tracking data monitored by Bloomberg show.” The other problem is the falling demand internally for crude as peak heat is long gone and local demand for refined products remains depressed. This puts more crude on the water and refined product, which will keep getting pushed in the market. “Compensation cuts by 13 producers that had previously violated their quota levels remain scant, putting pressure on the alliance to do more to prop up an oil market still reeling from the impact of the coronavirus.”[4] Cheating still remains a big problem, and as we have been saying- we don’t expect them to make up for it by cutting. Saudi Arabia came out today with commentary that “maybe” 2M barrels a day coming back to the market won’t be a good idea given the falling demand driven by COVID and depressed global growth. We have highlighted on countless occasions how the underlying global economy remains well below “expectations.” I have been guiding to how weak oil demand was going to remain throughout the year, and now we finally have some capitulation on demand expectations. There still remains a belief in the market that oil demand will quickly recover in 2021 and achieve consistent growth well into 2030. The issue on maintaining the cuts and restricting the expansion of the OPEC+ cuts to the next level of increase is the underlying balance sheets. Many of these countries have budget deficits and shortfalls that won’t easily or quickly be adjusted. OPEC+ nations are facing a steep budget deficit and a growing shortage of foreign reserves- specifically USD. This will keep the cheaters churning out barrels as an easy way to pick up as many dollars as they can to protect balance sheets and stave off inflation fears. Russian Production Still Growing as Exports Set to Rise Another problem with KSA’s view of limiting the expansion of supply increases- how will Russia respond as the country continues to increase production. “Russia’s crude and condensate production averaged 9.915m b/d in the first six days of October compared to 9.932m b/d in September, according to calculations based on Energy Ministry’s CDU-TEK statistics seen by Bloomberg.” Russia has been increasing their total output falling within 96%-98% of compliance on most months. While they have been near compliance, Russia’s condensate has been excluded from the total cuts. The below provides a backdrop for total flows out of the country by pipelines and shipping. Sliding compliance by Russia, which is now the largest producer of crude in the coalition, could emerge as a growing concern. Russia produced 9.10 million b/d last month, 110,000 b/d above its quota. Seaborne exports from the country saw a steady rise and production has also recently increased due to more domestic demand, panelists noted.[5] We have been saying that Russia will keep growing production slowly, but as local demand wanes there will be more crude slated for export. This chart helps provide the backdrop for the rising flow of Russian crude onto the open water. Russia has already started to release November numbers, and they are also shifting higher. The other problem Russia faces is a rise in COVID cases that will impact internal demand for refined products and crude consumption. While Russian refiners have started to cut runs due to low economic activity and seasonality, there will still be more refined product slated for the export markets. Russian Production of diesel was 1287.2 thousand tonnes, which is -6.4% w/w Russia Gasoline Production -6.8% W/w: Week to Oct. 4 The rise in cases causes a problem on multiple fronts as slow economic progress pushes the government to issue stimulus and with a weak ruble it becomes difficult. Russia can increase the sale of oil and refined products in order to take in more USD to support additional stimulus within their borders. These expansion options will keep Russia hesitant from pushing through with more cuts without large concessions- especially with so many other countries cheating. The commentary from KSA also provides support in WTI Cushing, which helps prop up US shale that is a key competitor in the European markets specifically. OPEC+ Cheaters Still Running Hard Russia isn’t the only one increasing as Nigeria takes their production levels higher through November with the recent schedule showing about 1.76M barrels a day into the market. The government has budgeted 1.86M barrels a day for export with the assumption of $40 oil, which is well off initial expectations that were closer to 2.2-2.4M heading into the year. The problem is based on the OPEC+ agreement in 2021 Nigeria is only supposed to pump 1.579M barrels a day. Nigeria has a terrible balance sheet and a rising budget deficit- so it is unlikely Nigeria will be willing to cut further or to slow down outputs. Nigeria has had to walk back production expectations because their isn’t enough physical demand in the market to handle that level of West African crude. Angola has kept their flows relatively subdued because China is their largest buyer and the demand hasn’t been their to support elevated flow. Iraq is another cheater that will keep pushing barrels into the market even as demand dries up. There still remains several Basrah shipments floating without a home. Even with these elevated barrels, Iraq is increasing the amount of Basrah loadings in Oct and Nov. Economic Backdrop Remains Dim We go into a lot of depth in our Economy Shows so I will just provide some high-level color with in-depth views. The bigger issue facing oil and refined product demand remains the growth of COVID cases and the slowdown in consumer activity. The economic slowdown has started to accelerate as COVID cases have risen. France, Spain, U.K, Canada, and the U.S. are moving the wrong direction on the case count- which will result in economic activity being reduced. We have already seen the impacts take effect in the UK, France, and Spain but in the US and Canada we will see the economic growth stagnate here and start to slowly come off. The U.S. is also facing a contentious election that will add pressure on a suffering economy without any congressional agreement on stimulus. The stimulus bill has become a political tool without any means of finding a middle ground. It remains unlikely anything meaningful will pass in the next 30 days- so any stimulus will have to wait for after the election. The other issue with stimulus- we have seen how quickly it can come and the speed in which it dissipates in the actual data. Without sustainable job growth, stimulus will be nothing more than stop gaps to churn up short-term economic lifts. It does nothing to address the underlying problem, which is sustainable job growth. The below data only takes us through Oct 5th, and cases continue to set records in the trouble spots- so when this is updated- the numbers will look worse and trending in the wrong direction. Europe and the US have issued lack luster figures (especially Spain/France) which shows the trend is shifting in a negative direction. Two of the bright spots above appear to be Japan and Germany, but we have seen perpetual weakness out of Japan while German data points to softer data. Japan’s PMI and exports remain weak and in contractionary territory, which won’t be changing in the near term. The weakness in Germany remains across the industrial production sector even as manufacturing orders start to pick-up. Imports have increases with exports surprising to the upside, which is a net positive but the challenges within Europe and across their trade partners will keep a lid on the shift forward. Germany will remain a bright spot in Europe, but the total recovery will be muted due to their export focused economy and struggling trade partners. Germany Industrial Production and Manufacturing Germany Imports and Exports German Top Trade Partners Based on the above 2019 backdrop. France/ Italy/ US/ UK are all facing a rise in cases and just slowing activity in general. The negative backdrop is also being reflected in the German truck toll index- it hasn’t shifted negative- instead it has flatlined at these levels. This is just another example on how Germany will remain a bright spot, but be relatively muted and plateau at these levels as their partners struggle. Expectations remain strong and the sentiment has gotten better, which supports my views that factory orders will rally- but still remain at a plateaued level. The slowing supply chain as it is restocked with goods will also limit the total output coming from Germany. The next shift is into the emerging markets, where COVID cases have accelerated in Russia and India, which will keep a lid on activity as economic activity shifts lower. India was supported by the recovery in the rural parts of the country, but the urban setting is still struggling under lockdowns and inherent general activity declines. India saw a bounce last month and have been trending in the right direction, but the underlying activity remains depressed. They will fall under the same pitfalls as other nations that see a robust bounce back to plateau under the weight of their trade partners and lack of local consumption. The pressure is all connected as the global market struggles to get back on its feet. We have seen supply chain disruptions that have started to alleviate and restock the system. It has been a slow process, but the issue remains the lack of employment in the market. The U.S. is facing a steep battle when it comes to getting people back to work, and the US isn’t unique in that underlying problem. Spending has declined across the board even with monetary/fiscal stimulus pouring into the market. The stimulus is just stressing an already extended sovereign balance sheet that came into 2020 at record levels. The problems are mounting as future growth is sacrificed in order to issue stimulus today. Governments and central banks failed to turn off the spigot for the last 10 years, so we now just have a surge of debt that will be an overhang for years to come. The below bar chart helps to show that even the Congressional budget office is factoring in the impacts, and the bigger theme is the permanent unemployment that is rising rapidly. Stimulus can quickly come into the market and drains out just as fast as it is increasing discretionary income for a short period of time- but without a stable job as the foundation- there is no staying power with spending. Instead, we are sitting in a market this is promising and jawboning about a deal that has failed to materialize- there is a 50/50 chance once could come because the election- but it still remains a fleeting increase to economic activity. Instead of seeing global growth get pulled higher, we have all countries essentially merging into a down or “normalized” economy that is about 80% of pre-COVID levels. The amount of stimulus that has been thrown at this market has only been able to bridge a small gap as consumer spending and general investment patterns change. Many entities in the world (consumer/ corporate/ sovereign) are sitting on record debt levels so the ability to borrow and invest or spend is limited. The sluggish economy, which was the case already coming into 2019, is now sitting in neutral without a real driver higher. Unemployment or underemployment is massive across the system with little new opportunity presenting itself leading to consumers saving what they can and reducing everything from travel to general spending. This lack of spending means less “stuff” is consumed so now manufacturing and industrial activity slows because there is a decline in total demand. The pressure is mounting across the supply chain as Emerging Markets can’t sell as many raw materials/exports limiting natural intake of dollars. We highlight on a weekly basis in our EIA show how the air travel isn’t coming back anytime soon because of cost but also the optic of “going green” where corporations can cut business travel to shrink their carbon footprint- but also cut spending. The whole backdrop will lead demand for everything to be depressed for a lot longer vs what people are expecting in the industry. Food Prices Heading Higher as Global Shortages Persist Food prices continue to surge on a global level as we have shortages throughout large parts of China with a significant amount of cattle, rice, and other crops destroyed in the Yangtze River floods as well as swine flu decimating large parts of the pig herd, armyworms destroying corn crops, locusts impacts crops, and droughts in other areas shrinking crop yields. This has led to a big spike in international purchases as stress increases throughout the system. The US and other areas have experienced an increase in drought conditions weighing on total output of crops. The prices are getting to levels that will incentivize farmers to sell from storage at this point, which is supported by the amount of grains slated for export. After the Chinese golden week, the local soybean futures contract went limit up as prices (and global food inflation) takes another leg higher. Bloomberg Grains Subindex Chinese Soybean Futures Geo-political Roundup From a geopolitical side, we have been discussing the conflict in Armenia and Azerbaijan because it has and can draw in more regional support. Turkey has been supportive of Azerbaijan’s push to retake the area of Nagorno-Karabakh. The area resides in what is recognized by the UN as Azerbaijan territory but is comprised of about 90% ethnic Armenians. The Armenia army has occupied this region since the cease-fire was signed in 1994. The conflict continues to escalate with artillery and drone strikes being carried out by both sides. Turkey has come out in support of their ally Azerbaijan while Russia has said that Armenia should find a resolution and referred to Nagorno being rightfully Azerbaijan. The statement was interesting, but Russia and Turkey are currently locked in proxy battles across Syria and Libya already and this current conflict would just add another wrinkle in that relationship. While Putin made those comments, Armenia still hosts a Russian military base in the east of the country across from Turkey’s Kars province. Russia will have to back Armenian forces because in proxy wars- if you fail to support one- the concern will spread that you will abandon others. Given the current economic backdrops in Russia and Turkey, neither entity can afford another expensive conflict, but treaties and alliance could change that backdrop. Now anything is possible when other nations get involved, but the conflict in the area has been simmering since 1994 and each year there is a rise in tensions. There have been flare ups in the conflict resulting in casualties on both sides, but many of those that saw the atrocities and blood shed from 1988-1994 are still alive and in power. They will try to find ways to placate their populace, but also avoid a full out war that will result in additional bloodshed. The way both militaries are positioned- it would amount to extensive loss of life with little ground recaptured. Both sides have dug in over years and have the high ground on each side of the border limiting any real progress. The current economic backdrop on a global level will keep this from really escalating now. This will always remain a flash point, but it won’t escalate at this time. The below clash that happened in July is right near the path of two pipelines that could have a bigger impact to the region. While I don’t think these assets will be targeted right now, this is an area that carries natural gas and oil into the market. The pipeline carries oil from the Caspian Sea into Ceyhan Turkey- which Turkey desperately needs in order to bring in additional USD and help stave off some inflation fears. Their central bank was forced to raise rates in order to protect their currency, but the risk of contagion into other markets (specifically Spain) is mounting as Turkey struggles. France has been meeting with Azerbaijan in order to find ways to mediate a truce because they understand the inherent risks behind an escalation. Not only to loss of life but the contagion into the EU. The Baku-Tblisi-Ceyhan oil pipeline in the vicinity of Yevlakh There were some Iranian protests last night after Mohammad-Reza Shajarian passed away, and he is a famous singer who backed the Iranian protests of 2009. The IRGC sent in their security forces to violently put down the protests, but the problems run deep and it will just take some catalyst to drive change. There is an Iranian election in 2021, and an increasing belief that Biden will re-enter the Nuclear Pact signed with Obama. Any adjustment on that front would take time, but the economic pain within Iran is real- especially with COVID-19 increasing again within the country. The populace doesn’t support the regime, and the election will be an interesting backdrop to see how much change can peacefully be instilled- but as long as the IRGC is involved- I am going to say not much. It is possible that a deal is found between the US and Iran, but it is unlikely in the near term. I still believe we are closer to a regime change vs further away- which would bring a large amount of crude to market. [1] https://www.wsj.com/articles/chinas-tourist-spots-are-full-but-wallets-are-still-light-11602069306 [2] https://www.spglobal.com/platts/en/market-insights/latest-news/oil/100820-opec-predicts-wave-of-oil-refinery-consolidation-as-capacity-will-outpace-demand [3] https://www.cnbc.com/2020/10/08/oil-labor-strike-could-wipe-out-almost-25percent-of-norways-oil-production.html [4] https://www.spglobal.com/platts/en/market-insights/latest-news/oil/100920-opec-improves-compliance-in-sep-but-catch-up-cuts-remain-scant-platts-survey? [5] https://www.spglobal.com/platts/en/market-insights/latest-news/oil/100920-opec-improves-compliance-in-sep-but-catch-up-cuts-remain-scant-platts-survey [/ihc-hide-content]