When OPEC sits down on Thursday, keeping the price of Brent above $50 (to avoid a budget catastrophe and social upheaval in Saudi Arabia) and below $60 (to prevent US production from going exponential), will be just one problem the cartel nations and various hangers-on will be desperate to solve. A much bigger one, literally, is the problem that led to this week's OPEC meeting in the first place, and years of headache for OPEC and non-OPEC nations: a record global oil inventory glut.
The supply glut that began in mid-2014 has dumped almost one billion barrels of petroleum into global inventories. However, of this only 35–45% has ended up in transparent OECD tanks. For OPEC, that is all the matters - in the past, OPEC oil ministers have repeatedly referenced the level of OECD petroleum inventories relative to their five-year average as a gauge of the rebalancing. And, as ScotiaBank notes, those inventories were more than 280 Mbbl above their five-year average as of January and, while European stocks have been falling into a healthier range, the same cannot be said of industry stocks in the US, which despite declining for several weeks, are just below all time highs.
But forget OECD: an increasingly greater concern for OPEC is not the less than a third of above ground oil held in developed nations; it is the rest that is the big challenge. As ScotiaBank's Rory Johnston points out in the following chart, the majority of the remainder was absorbed by China’s vast and growing strategic petroleum reserve (SPR), which means that "the lion’s share of functional—and thus needing to draw from an OPEC perspective—industry inventories remain in the OECD, and specifically in the US (chart 3)."
As we have explained on several occasions over the past year, China's SPR is far more important to the global oil (im)balance and inventory glut than the less than a third of total oil produced since the summer of 2014 and stored. This is due to one main reason: while ScotiaBank is correct that any draws will likely come from OECD storage, it forgets the demand side of the equation.
One year ago, JPMorgan estimated that the daily build of China's SPR, had grown at a breakneck pace, from 491Kbpd average in 2015 to a record 1.191MMbpd in 2016 through May, equivalent to roughly 15% of the country's total crude oil imports.
More importantly, it was roughly a year ago when JPM calculated that China's SPR was getting dangerously close to its estimated capacity, just over 500 million barrels.
JPM also made a forecast that based on its assumptions, Chinese oil imports would slide by roughly the amount that would have been going into the SPR starting in late 2016 as the reserve hit capacity. When that did not happen, there was much confusion among the commodity space, until in late September 2011, satellite imagery from Orbital Insight revealed that the total size of China's SPR was vastly greater than previously estimated.
According to satellite images by geospatial analytics startup Orbital Insight, China, has not only misrepresented how much oil it has stored, it has done so at a massive scale, with the real number dwarfing even JPM own estimate: the real amount of Chinese oil in storage, according to Orbital, was a whopping 600 million barrels as of May. Assuming JPM's estimated rate of SPR accumulation of about 1mmbpd, the 600 million number as of May would have grown to well over 700 million barrels as of September.
Orbital’s figure as first reported by Bloomberg, is well over two times larger than China’s official estimates for strategic petroleum reserves and for commercial stocks, said Orbital Chief Executive Officer James Crawford.
To be sure, in late 2016 other skeptics started warning that even with the revised size estimates, China's SPR was likely approaching capacity. Last September, the IEA warned that "recent pillars of demand growth China and India are wobbling." S&P Global Platts' Ernsberger, cited by CNBC, said that the slowdown in Chinese demand was worrying for major oil producers.
"The demand picture is very unsettling for OPEC and for all producers of crude and refined products (and this is seen most significantly in) the slowdown in growth in the Chinese market. China has returned more incremental demand for the oil market in the last five years than any other country in the world and more than almost any of the counties combine. But this year demand growth in China has stalled and that represents a significant change in the environment for producers both in OPEC and outside it."
Then 2016 came and went, and we find ourselves almost mid-way into 2017 and ask: has anything finally changed, and will all those predictions of an imminent Chinese SPR overflow finally prove accurate?
We don't know just yet, but according to data released by the General Administration of Customs data on Tuesday, China's oil stockpiling pace finally tumbled to 1.36mbpd in April, from 1.6mbpd in March, the sharpest decline in reserve accumulation in years, and in line with the recent slowdown from record oil imports. If indeed China is finally at capacity for the SPR, the SPR stocpiling is about to fall off as cliff this month.
In other words, all those forecasts that China's SPR is almost full appear to be finally coming true, and at the worst possible time for OPEC, because if suddenly over 1 million in daily "demand" is pulled from the market, OPEC will suddenly find themselves with another huge glut now that Beijing is no longer waving it in. In fact, we contend that while OPEC's decision on Thursday is fully priced in by the market, the only thing that matters for the future price of oil is how long until China halts SPR imports. Here, those who have faster access to commercial satellite imagery will be a distinct advantage over everybody else, even the momentum-chasing, headline scanning algos...