Over the last two years, Asian product markets have been pressured by a surge of Chinese key refined product exports (allowed by higher export quotas). But expected lower Chinese product export quotas, coupled with Beijing’s intention to impose consumption taxes on blending components, should help to tighten the market. India’s oil demand rebounded in April/May after contracting in 1Q17 as the effect of demonetization diminished with growth. Japan’s refinery runs are expected to drop more sharply than demand contraction this year. Australia’s product inflows are likely to ease over the next few quarters. Overall, Asian refining margins are expected to improve.

Gas price appreciation ended in recent weeks as our concerns of headwinds impacting U.S. balances and inflating storage injections proved on the mark — especially amidst the top-heavy NYMEX/ICE financial length formerly in place. In response, we have marked down the front of the forecast closer to NYMEX futures. Fundamentals ahead, however, look more price supportive, particularly in light of newly achieved gas EG competitiveness. As confirmation of structural tightness emerges a firmer underpinning for prices loom. Moreover, we remain steadfast in the view that structural growth in demand, on top of weather-normalized conditions will overwhelm further supply expansion re-stoking concerns over inventory adequacy ahead of winter, thereby buoying price perceptions further out in the curve.

Oversupply remains the short-term issue, while lack of demand growth remains a growing concern that may limit future LNG investment. A change in strategic focus will address both of these areas. Supply disruptions remain a concern in the short term, but even the Qatari scenario remains remote. Additional LNG is building on the water due to additional production in transit and a lack of prompt demand. Third quarter balances are particularly vulnerable despite higher Japanese use. Tanker rates are responding to the greater need.

Capesize dry bulk freight rates have weakened further over the past month, falling to around $7,750/day. The capesize fleet continues to expand as new orders have more than offset fading scrapping activity. There are some concerns on the demand side, with credit tightening in China, and an investigation in the U.S. into steel imports and national security. Despite these risks, PIRA still expects the capsize market to rebound in 2H17.

Tanker markets have been under pressure since the beginning of 2017 when OPEC production cuts were first enacted at the same time that feet capacity growth was accelerating. OPEC’s decision to extend production cuts for an additional nine months will exacerbate the typical season weakness in tanker rates during the summer months.

Overall U.S. commercial oil inventories fell 1.9 million barrels this past week with crude stocks continuing to resume its decline after the early June interruption. Product demand sharply rebounded, allaying fears of gasoline demand weakness. Cushing crude stocks declined 1.1 million barrels this past week and are now down 12% (8.3 million barrels) from their peak and PIRA is forecasting another 1.0 million barrel inventory decline for next week’s EIA data.

In recent periods, the underlying pace of inflation in the U.S. slowed suddenly. Such a slowing can be a warning signal, representing a drop in the demand for goods and services. Alternatively, it may only reflect price volatility in certain sectors. The current situation is the latter. The housing sector also produced negative surprises in recent periods, but after adjusting for volatility, housing starts do not look very weak. A recent sharp decline in the U.S. economic surprise index is not yet a cause for worry. This week’s leading indicator release for May painted a positive picture.

U.S. ethanol prices reached the highest level in six weeks on June 15 before giving back some of its gains the end of the week. European prices also peaked at the highest level in a month before declining. The 2017/2018 sugarcane harvest in the South Central region of Brazil is off to a slow start as heavy rain limited the day worker could get into the field.

On June 21, King Salman named his son Mohammed bin Salman (MBS) the new Crown Prince, officially making him next in line to the throne. The move accelerates a widely-expected Saudi succession plan, but is unlikely to trigger near-term policy changes. MBS is already the leading voice on foreign, economic, and oil policies in the Kingdom, although the promotion could make it easier to implement his reform agenda without requiring another ceremonial step. Most notably, MBS’ aggressive stance towards Iran signals a continuation of conflicts in Yemen and Syria. But the potential for escalation elsewhere in the region was already rising before today, given worsening rhetoric between Saudi Arabia and Iran, U.S. hostility towards Iran, and the Arab rift with Qatar.

2017 continued to see efforts to roll back Obama-era regulatory initiatives through the Congressional Review Act (CRA), Presidential Executive Orders (EOs) and other Executive Branch tools. While the CRA affected few environmental regulations, the President’s March EO directs EPA to review the Clean Power Plan and Social Cost of Carbon, repeals Obama guidance on factoring climate into NEPA Reviews and lifts the moratorium on coal leasing. Other regulations have been administratively stayed/delayed, including 2015 Ozone NAAQS designations, BLM’s Venting and Flaring on Federal Lands (whose CRA resolution did not pass), Methane NSPS for the Oil and Gas Sector, and Methane from Landfills. Administrative stays will spur legal challenges. Key rules currently under review at OMB which will see movement in the near term include the proposed Renewable Fuel Standard for 2018, the proposed Rescission of the 2015 BLM Hydraulic Fracturing Rule, revised Coal Ash Disposal Guidance and a review of the Clean Power Plan.

Japanese crude runs fell 44 MB/D on the week as the last wave of maintenance began. Crude imports were very low and even with lower runs, crude stocks still posted a large 4.8 million barrel draw. Finished product stocks also drew 1.2 million barrels, as aggregate demand again turned higher, which seems to confirm that it has reached its seasonal bottom. Kerosene demand rebounded 24 MB/D but remained seasonally low. The stock build rate eased fractionally to 57 MB/D. Refining margins were higher on the week by $1.80/Bbl. The implied marketing margin was again stronger on the week for gasoline, but lower for gasoil/diesel. Levels remain well above their historical means for both gasoline and gasoil/diesel.

At the risk of being slightly overdramatic, a critical 5 ½ trading days lie ahead for grains and oilseeds before the markets “reopen” for the rest of the summer on the morning of July 5th. Without a proper 3 day weekend, and a shortened session on Monday, July 3rd, the impact of the post-holiday cold opening may be somewhat mitigated, but a lot depends on Friday’s critical reports and the early July weather forecasts. The tone for the rest of the summer, or at least until late August, will be set by next week.

The NYMEX July contract settled close to unchanged following yesterday’s EIA reported 61 BCF build in storage inventories, which came in above consensus. To be sure, it has been a tough month for market bulls where weather across key cooling areas has been overwhelmingly milder than normal and thus injections have been strong month-to-date — CDDs in the South Atlantic, East South Central and West South Central have been trending 10%, 20% and 10% lower than the ten-year average. Regional stories were mixed, the U.S. Northeast experienced significant above-normal temperatures, but lack of demand in surrounding regions left awash in supply driving Appalachia price markers convincingly to the down. In the West, a record-breaking heatwave diverted Rockies gas away from the Midwest, into premium-priced Southern California markets, while pipeline expansions in the Southeast disrupted traditional price patterns, particularly on the Florida peninsula.

Power sector gas demand across the south is surging pass winter levels and we’ve still yet to reach summer peaks. Over the last two years, demand from electricity generators has gone up on average 12.5% in the Mediterranean. Gas-to-power demand across Northern Europe remains relatively muted – down 9% year-over-year, while demand to the south is up 48% year-over-year. Northern Europe only has a winter peak, while nations along the Mediterranean have a double peak – more akin to what East Asia and North America have. This year-over-year growth is being led by Italy (+18-mmcm/d year-over-year), Spain (+8.4-mmcm/d year-over-year), and Portugal (+5-mmcm/d year-over-year). Recent Spanish numbers are among the single highest numbers we’ve seen in at least 3 years – incredibly surprising given how tight power conditions were in Iberia this winter.

The seaborne coal market continued to rally on Monday, with all three major coal forward prices rising by approximately $1.00/mt. However, another downshift in oil prices pulled coal prices lower, particularly for FOB Richards Bay and FOB Newcastle prices. CIF ARA forwards fared considerably better, with front end prices eking out a small W/W increase. The coal market continues to search for a new short-term equilibrium following the spike in prices in 2H16. Disruptions on the supply side in Indonesia and Australia have delayed this realignment, particularly as the demand side has surprised the market to the upside. PIRA continues to believe that the downside for pricing is limited over the next month of two, although prices will be facing stiff headwinds after the summer peak in China (more below) and elsewhere.

In general, financial stresses remain extremely low, but they have increased markedly in certain areas, particularly energy related credit. The St Louis Fed stress index moved slightly higher on the week. The S&P 500 set a new record high Monday, while volatility (VIX) fell on the week by 3.5%. Commodities were down again, particularly energy, which again got hit hard. Much of the higher credit debt pricing has held up well, but high yield energy credit has weakened noticeably with physical oil prices.

U.S. ethanol production fell 12 MB/D last week to 990 MB/D as output in the Midwest sunk to an eight-month low. Inventories dropped by 262 thousand barrels to 22.3 million barrels. Ethanol-blended gasoline manufacture climbed to 9,348 MB/D from 9,252 MB/D during the previous week.

Despite all reactors affected by the steam generator anomalies being cleared by the ASN and back online since February, French nuclear output has been surprisingly low in recent months. The output June-to-date has matched the same level of June 2012, the lowest since 2001. Cooler weather on the horizon may have undermined 3Q contract, but current nuclear availability numbers published by RTE appear extremely optimistic given the recent downward corrections. Any downward revision of nuclear availability in July might not be easily offset by lower net exports.

After setting new record highs, markets have become more selective. While the overall market was up marginally for the week, only technology posted a solid gain among the tracked indices. Banking and energy were particularly weak, along with utilities and retail. Internationally, China and emerging Asia posted solid gains.

China’s crude imports soared to 8.5 MMB/D in the first five months of this year, up 14% year-on-year. However, the Chinese government seems to be shifting its focus from granting quotas to conducting supervision over the sector to prevent illegal re-selling of crude, illegal blending of oil products and tax evasion. The NDRC has stopped accepting applications for crude import quotas from independent refineries since 5 May, and the Ministry of Commerce has issued last week lower crude import quotas to independent refiners. This comes as another blow to independent refiners. Crude buying from these “Tea Kettle” refiners are expected to slow in 2H17 due to lower import quotas.

PIRA believed the medium term crude oil price should be somewhere between marginal shale well economics ($50/Bbl) and full cycle costs ($60/Bbl). This is how we arrived at our $55/Bbl. The anchor is important because it is from this level that we calculate fair value, taking into account the extent to which inventories deviate from normal. However, the more analysis we do, it is becoming clear that currently and for the next several years, the anchor is more likely to be lower.

Persistent refinery issues across Latin America continue to boost refined product imports. Recent outages in Mexico (Salina Cruz) and the overall refining system in Venezuela underline the fragile state of refining operations in the region. PIRA expects gasoline and distillate imports to stay relatively high in 2H17 even as refinery crude runs in Brazil are expected to recover and curtail some imports.