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Sharp Drop In Oil Inventories

By Zacks Investment Research on May 14, 2009 | More Posts By Zacks Investment Research | Author's Website

Today’s (Wednesday) better-than-expected inventory report helps crude oil hang onto recent gains, even in the face of otherwise bearish news on the economy’s front and equity market weakness. Given the continued weak demand and bloated inventories in the country, it remains to be seen if this favorable move on the inventories front, the first drop since February, can be sustained in the coming days.

In its weekly inventory report released earlier today, the Energy Information Administration (EIA) reported that commercial crude oil stocks dropped a surprising 4.7 million barrels from the previous week. This contrasted with market expectations of 1.3 million barrels build during the week. Reduced imports offset the impact of the increased refining utilization rate.

As the above EIA chart shows, current inventories remain above the 5-year average (the shaded region represents the 5-year range). Current crude oil inventories at 370.6 million barrels, excluding the Strategic Petroleum Reserve, are now 13.8% above the year-earlier level, highlighting the imbalance between growing supplies and shrinking demand. Current stocks provide for 25.5 days of supply, significantly above the year-earlier level of 22 days.

Significantly, gasoline inventories dropped a bigger-than-expected 4.1 million barrels from the previous week, bringing current inventories to the middle of the historical average, as the EIA chart below shows. Current gasoline inventories provide for 27.7 days of supply, down from 28.9 days of supply this time last year. Given the recent strength in crude oil and gasoline’s tight supply situation, gasoline prices are expected to maintain their recent uptrend in the coming weeks.

Even if today’s inventory report does not form a trend in the coming days, the market has been looking beyond the inventory overhang and weak demand. The emerging positive narrative on the economic front has been the primary driver of crude oil and other commodity prices.

While a significant pullback cannot be entirely ruled out in the coming days, we expect oil prices to consolidate around current levels if this positive economic outlook takes hold. In addition to integrated oil companies, such as Chevron (CVX) and Marathon (MRO), international oilfield service companies, such as Schlumberger (SLB), and deepwater offshore drillers, such as Transocean (RIG), remain well positioned to benefit from this commodity-price outlook.

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