The price of oil remains arguably the most important price within the world economy and creates much of the price volatility across transportation energy products. In 2020, the coronavirus pandemic, a price war waged between prominent oil producers, and a global recession led to record-low oil prices within the U.S., and some of the lowest transportation energy costs we have seen in years, if not decades.
Markets moved on. Oil prices climbed through the fourth quarter because the world grew more optimistic for economic recovery and improved demand for transportation energy. Lower oil production, low refinery utilization, and even bankruptcy and consolidation led to historic supply-side contractions.
What will these market dynamics mean for transportation fuel costs in 2021?
While there are plenty of plausible outcomes for energy markets in the year ahead, this post focuses on Breakthrough’s core forecasting considerations used when advising shippers on the energy costs to move their goods to market.
1. Don’t Forget About Market Fundamentals.
For shippers, U.S. crude oil inventory analysis is important because these economic fundamentals offer helpful price guidance for diesel fuel. Crude oil typically accounts for 45-55 percent of the ultra-low sulfur diesel price and is the most volatile portion of the diesel price buildup.
Oil inventories ballooned to their highest levels on record after demand for refined products—especially transportation fuels—cratered during spring lockdowns. The chart below highlights the relationship between U.S. crude oil inventories and crude oil prices during the past five years. Among other key benchmarks, this chart shows crude oil inventories reached a high point of 42 days of supply because of the demand destruction brought on by the pandemic. This historic inventory build reached its peak in mid-May.
The chart above calls out three important inventory benchmarks: the pandemic peak (42 days of supply), the 2020 year-end level (35 days of supply), and the longer-term average (29 days of supply). Analysis of West Texas Intermediate (WTI) crude oil prices over the past five years provides a price range at each of these inventory levels and suggests there may be more resistance for oil prices pushing higher to begin 2021.
Inventory levels reversed course after they reached their record-setting level. Crude oil inventories fell to 35 days of supply at the end of 2020, more than seven months after they reached their peak. In comparison, the average inventory level for U.S. crude oil during the past five years was 29 days. This shows crude oil inventories have decreased significantly from their pandemic-induced peak but there continues to be surplus crude oil that needs to be removed from storage in order to reach average levels and, as a result, likely higher prices.
Crude oil prices—and consequently diesel prices—rose rapidly in November and December in response to vaccine announcements and changes in production-cutting policies from the Organization of Petroleum Exporting Countries and its allies (OPEC+). Crude oil inventories, on the other hand, actually grew versus their five-year average, which usually implies downward price pressure onto the price of a barrel of crude oil. These opposing dynamics left crude oil prices near the top of their historic range for the level of supply in storage at the end of 2020 (35 days of supply).
The end of 2020 showed a crude oil market moving on sentiment rather than underlying crude oil economics. Looking again at the previously introduced chart, we can see the average crude oil price per barrel is relatively tight from 35 to 27 days of supply—where the market is likely headed over 2021—with a range of about +/-$10 per barrel. Additionally, prices rarely surge above $60 per barrel until inventories fall lower than the 27 days of supply mark. These are a couple of the fuel price considerations we make in our assessment of a slowly recovering market and low crude oil price ceiling through 2021.
2. History Will Continue to Offer a Helping Hand
Diesel demand caught up to 2019 levels in December 2020. Gasoline and jet fuel sales remained about 13 and 30 percent lower, respectively, year-over-year. Why the disconnect between transportation fuel types?
Freight demand soared for many industries during 2020 because consumers shifted their wallet share from spending on services to goods. In fact, freight demand soared despite total consumption in the U.S. remaining nearly five percent lower through 2020 (by our estimates) than where it otherwise may have trended if the pandemic did not occur (see the chart above).
While diesel demand was relatively thriving, gasoline and jet fuel demand languished from greatly reduced business and leisure travel. Refiners reduced their production to account for this consumer behavior. U.S. refinery utilization—or the amount of refining capacity being used to create products like gasoline, diesel, and jet fuel—stayed near 80 percent and far below its pre-pandemic level to end 2020. In comparison, from 2015 to 2019 it averaged more than 91 percent.
The moves made by refiners to reduce production meant far less diesel fuel was being produced despite its demand holding up relatively well, unlike many other refined products. This drew diesel inventories near their five-year averages. The diesel commodity premium above the crude oil it is manufactured from (or crack) gradually increased. These dynamics boosted diesel prices, especially during Q4 2020.
The return of demand for fuels used in passenger transportation will encourage refinery utilization to increase toward pre-pandemic levels. As refiners produce more gasoline, the refining process will also put more diesel into the market, with the increasing diesel supply likely weighing down prices. These dynamics occur routinely because refinery utilization annually ratchets up for the summer driving season in response to greater gasoline demand and its seasonally higher price premium.
Operation Warp Speed has a stated goal of vaccinating 80 percent of the U.S. population by late June. If this goal is met and refinery utilization increases as the number of vaccinated Americans grows, then the seasonal cycle of increasing production of transport fuel may put downward price pressure onto diesel fuel. Seasonal fuel demand caused diesel prices to fall from May to June during nine of the past 11 years.
Oil prices may gain support through the coming summer as economies rebound after more prolific vaccination, but higher refinery utilization could still offer this downward pressure onto diesel as a unique transportation commodity, with market dynamics of its own. These dynamics would be difficult to contemplate without the aid of historic trends and data.
3. There is Strength in Numbers
Breakthrough’s services enable precise fuel and freight forecasting. We capture data from about 60,000 daily freight movements that equip us with near-real-time market intel to project the budget impact of events like a tightening freight market and state fuel tax increases. While this transparency to precise data is critical for forecasting, this third principle goes far beyond a single numerical output.
Our forecasting teams routinely gather to challenge market perceptions and individual perspectives. These meetings and conversations collect our diversity of thought and create a broader knowledge base for forecasting. The growth of our team, client base, and broader industry network continues to grow our forecasting potential. This synergy is particularly beneficial in volatile transportation and energy markets to avoid impulsive behavior that leads to under or over-reacting to change.
This allows us to cut through the noise of market chatter to give shippers a full understanding of the price influences affecting their supply chain strategies.
Help Your Forecasting Evolve in Volatile Markets
The amount of data and information discussed during a normal business cycle can be overwhelming, so when disruption occurs, and cycles become volatile, it is beneficial to elevate forecasting principles. Whether focusing upon the energy consumed or the volumes moved across a transportation network, focusing on market fundamentals, drawing comparisons with past markets, and challenging perspectives through a diversity of thought will enable organizations to cut through the noise and keep budgets connected with market dynamics.
For more information about Breakthrough, our transportation industry forecasts, or how you can create more data-driven strategies, contact us!