ULSD Reverses Gains Amid EU Sanctions and Speculative Shifts

It’s a cautious start to trading this morning after a huge Friday reversal wiped out 13-cent gains for ULSD futures as the market digests the EU’s new plans to sanction Russia and its oil buyers, while debating whether or not the U.S. will follow suit.

The new sanctions announced a lower price cap for legal purchases of Russian oil by 15% to around $48/barrel, but perhaps more importantly, also attempted to close the refinery loophole that allowed countries like India and China to buy discounted Russian crude and sell the products made from that oil to Europe at market rates. The new rules also targeted shadow fleet ships and Russian banks, and shut down any future purchases of gas from the shuttered Nord Stream pipelines. While in theory all of these moves could lead to more demand for U.S. diesel, the limited market reaction suggests that enforcement of these new plans is questionable, as global traders have proven quite adept at bypassing the sanctions in the past 3.5 years.

Money managers were generally bullish on petroleum prices last week, with 4 of the big 5 contracts seeing increases in speculative net length (bets on higher prices) through a combination of new long positions and short covering. WTI was the exception to the rule with its speculative net length slashed by more than 35% in just one week as big money funds reduced long bets and added new shorts.

Perhaps most notable in the CFTC report is that money manager positioning in diesel futures (HO) reached a 4 year high for net length, while producers have been happy to sell into the recent rally with that category of trader reaching its largest net-short position in 4 years as well. The influx of hedge fund money into the relatively small arena on diesel fuel trading (compared to things like stocks, bonds and currencies) makes a 15-cent swing like we saw Friday more easily understood, particularly if their trading algorithms sent sell signals once prices approached $2.60.

Speculators were mixed on environmental credits last week, with California’s LCFS and D6 RIN contracts seeing small additions to net length held by money managers, while D4 RINs and Cap & Trade credits in California and Washington both saw small reductions. RIN values are approaching a 2 year high after another rally on Friday as the industry awaits the EPA’s final decision on its proposed rules that make a big increase in the requirement for biomass-based fuel production, and give importers just 50% value for their production and feedstocks.

The National Hurricane Center is giving 20% odds of a new storm system being named this week as it moves towards the Eastern Caribbean. The system is currently on the southern fringe of having a shot at becoming a threat to the U.S., but is projected to move slightly north in the next few days, so we can’t dismiss it yet.

Baker Hughes reported 2 fewer oil rigs drilling in the U.S. last week, marking a 13th straight week of reducing drilling activity for oil, which sets a fresh 4-year low for the rig count. On the flip side, natural gas rigs jumped by 9 last week, the largest weekly increase in 2 years, and another sign that recent efforts to remove shipping bottlenecks will allow domestic producers to ramp up production.