Happy Friday!
Oil briefly crossed $90 a barrel on Thursday for the first time since the spring and then pulled back to close the week near $89. WTI is up nearly 40% in July alone, and this was a week that showed exactly why prices are not coming back down anytime soon. Three major supply routes went under attack simultaneously. The Strait of Hormuz running almost no ships. The Houthis made good on their naval blockade of Saudi Arabia. And Kazakhstan lost half its oil production in a single day to Ukrainian drone strikes. Here is what drove the market this week.
Monday arrived with some diplomatic hope after an entire week of escalation. The U.S. had now carried out nine consecutive nights of strikes on Iran, and the weekend brought sad news for America. Three American military personnel were confirmed killed in Jordan. Iranian forces struck back at U.S. assets across the Gulf and also hit desalination facilities in Kuwait and Bahrain. The Houthis declared a formal naval blockade of Saudi Arabia on Monday morning, calling it an “eye for an eye” response to Saudi airstrikes on Yemeni territory. Two oil tankers were reported immobilized by the IRGC trying to cross the strait. Iran’s foreign ministry sent the week’s most unexpected message saying negotiations could be pursued based on national interests. But the market heard it as a possible opening after many days that looked increasingly like a runaway escalation. Oil prices pulled back on the news. The pattern of this war has been: talk surfaces, oil drops, talks go nowhere, oil climbs back. We have been through that cycle enough times that caution is warranted. The domestic fuel picture on Monday already told you how little cushion exists if talks fail again. Gasoline crossed back above $4 a gallon. Diesel is running north of $5 for farmers and truck drivers.
Tuesday brought another day of steady fighting and a deteriorating supply picture. A commercial tanker was struck in the Strait while trying to cross and crew members had to abandon ship. U.S. forces bombed targets in southern Iran, Iran struck back at U.S. bases in Bahrain, Kuwait, and Jordan, and the covert ship-to-ship transfer network that had been the Gulf’s main workaround slowed significantly after the latest wave of Iranian attacks. The Houthi naval blockade of Saudi Arabia became a real concern Tuesday, with the focus sharpening on Saudi Arabia’s Red Sea pipeline route to Yanbu. This was the very bypass the kingdom built specifically because Hormuz is no longer reliable. If that route gets disrupted too, Saudi Arabia loses both of its export pathways at once. On the macro side, oil could rally to over $120 a barrel in the fourth quarter if the Strait of Hormuz remains disrupted. That is not base case, but it is a possibility based on the pace of the past two weeks.
Wednesday pushed WTI above $87 and the week’s most consequential new development arrived in the Red Sea. Three Saudi crude tankers were loaded with oil bound for China and India when they reversed course and turned back rather than sail past Yemen. The Houthi naval blockade was no longer just a threat. It was real enough to make fully loaded supertankers change course. Asian refiners who had been counting on Saudi crude for August delivery are now scrambling. Meanwhile, the EIA inventory report had a somewhat surprising result. All U.S. petroleum stocks built for the week. Commercial crude rose 2 million barrels. Gasoline gained 0.8 million. Distillates added 1.4 million. Propane surged 6.3 million barrels to a level now 34% above the five-year average. These builds reflect two things. One, domestic refineries are running at near-maximum capacity pulling in imports from wherever they can get them. And second, U.S. production is continuing to creep higher. But the underlying tightness has not disappeared. Distillate stocks are still 10% below average and gasoline is 7% below normal.
Thursday was the day this week became historic. Oil surged for a fifth straight session, pushing over $90, on news that the Houthis had followed through and struck a Saudi crude tanker near the Bab el-Mandeb strait in the Red Sea. Saudi confirmed at least one ship was hit. Nearly 9 million barrels a day of oil flowed through that strait over the past month. Estimates are that roughly 4 million barrels of that would be extremely difficult to reroute if both Hormuz and Bab el-Mandeb are effectively closed simultaneously. The Strait of Hormuz was running at just three crossings per day on Thursday, down from 18 per day one week earlier. And then Kazakhstan arrived as an entirely new storyline. Ukrainian drone attacks on the Caspian Pipeline Consortium’s Black Sea export terminal forced Kazakhstan to cut production to just over 400,000 barrels a day, less than half of its normal 925,000 barrel daily average. The CPC pipeline handles almost 2% of global oil supply and is the main artery for reaching European refiners. On the other side of the world, international buyers flooded back to U.S. crude purchases as Gulf supply dried up again.
Friday brought the pullback of the week. Oil fell more than 3% after briefly touching past $90, partly on profit-taking after the dramatic Thursday move. Also, Trump’s announcement of new tariffs on 60 trading partners added a layer of possible economic slowdown on top of everything else. When traders think the global economy is about to slow down they sell oil even in a supply crisis. But the weekly gains are very real, and the supply picture that drove prices to $90 has not changed. The Red Sea picture today is more nuanced than a clean blockade. Chinese and Russian-linked tankers have been passing through the Bab el-Mandeb without incident. The Houthis appear to be letting allied nation ships through unharmed. Some Saudi crude is still moving. But the economics of using the alternative routes is much more expensive. India’s refiners are already racing to find alternative supply. OPEC is set to meet August 2 and is expected to raise its output target, but these quota increases are essentially meaningless right now. OPEC is signaling market recovery but its members physically cannot deliver what they are promising.
The Chicago spot market moved higher with crude oil this week. Diesel jumped over 30 cents a gallon and gasoline followed crude upward while staying more contained thanks to healthy inventories during peak summer demand. I expect retail prices to move higher at the pump, with diesel rising at a steeper rate than gasoline. One thing I am watching closely is that Chicago diesel is still trading at roughly a 50 cent per gallon discount to the NYMEX heating oil contract. This is an unusually wide gap. With refiners booking extraordinary margins on diesel right now, if Chicago gets at all tight on supply that basis could close fast. Monday is important to watch. The August prompt contract expires and a rebalancing of that basis could take place around the rollover. Early next week will tell us a lot about the trajectory of diesel prices heading into August.
Propane continued to trade in a very narrow range, and Wednesday’s inventory report showed a massive build. Many in the market attributed the build to a rebalancing of volumes that had been moving around over the past month, rather than a genuine demand event. Propane summer fundamentals remain in play through end of September, which means you still have time to capture some attractive summer fill pricing before the heating season dynamics start pulling prices higher. That said, in an environment this volatile, I strongly recommend ordering your summer fill sooner rather than later. Next heating season contracts are available. Please give us a call and we will walk you through your options.
As always, if you have any questions please feel free to give us a call. Have a great weekend!
Best regards,
Jon Crawford
Sources: Bloomberg, Reuters, Wall Street Journal