Clearing the Smoke: Diesel Edition
If there’s one thing this newsletter will do, it’s cut through false narratives. Back in May I talked about how I don’t think there is enough evidence of sabotage in the U.S. food industry. Failing to adjust for base effects can make it seem like there’s a problem, when there may be none or a small increase on a consistent annual base. Noticing something that happens all the time can create a false narrative of a new trend.
My go to example is child kidnappings. At the turn of the millennium, the media went wild with child kidnapping stories. Relatively new 24/7 news channels competed for viewers with sensational, wall-to-wall coverage of single cases. The public feared for children’s’ safety despite overall kidnappings going down.
Now look at diesel. Bloomberg: World's Most-Crucial Fuel Heads for Shortage Touching Everything
Within the next few months, almost every region on the planet will face the danger of a diesel shortage at a time when supply crunches in nearly all the world’s energy markets have worsened inflation and stifled growth.
…In the US, stockpiles of diesel and heating oil are at their lowest point ever for this time of year in data going back four decades. Northwest Europe is also facing a low buffer — inventories are forecast to hit a low this month and then tumble even more by March, shortly after sanctions come into play that will cut the region off from Russian seaborne supplies. Global export markets have gotten so tight that poorer countries like Pakistan are getting shut out, with suppliers failing to book enough cargoes to meet the nation’s domestic needs.
First, there are different situations in different countries. A global shortage doesn’t mean everyone is short of diesel. Some countries are struggling more than others. Local policy may be the reason. Pakistan’s government sets prices monthly. They track market prices, but can deviate. As sure as the Sun rises in the East, price ceilings cause local shortages.
Inflation also drives shortages because it triggers excess demand and hoarding. A skilled labor shortage supposedly existed in 1973, as today, because then as now, inflation lifted demand beyond the economy’s supply constraints. The same thing happened with garage doors, housing, and retail inventory the past two years. As we’re seeing in housing and retail, prices and demand can crater when the inflation stops.
What’s the deal with diesel?
I’ve heard about a serious diesel shortage for at least a month straight now. Google Trends says search traffic for “diesel shortage” peaked about three weeks ago. The price of diesel peaked days earlier.
I’m open to the possibility of a diesel shortage. The ratio of diesel to crude remains in an uptrend, suggesting some truth to the story:
Here’s that relationship shown a different way, with both diesel and crude on their own price axis.
The charts are giving two pieces of information. One, diesel is falling more slowly than crude oil. Two, diesel is following crude oil lower.
Occam’s Razor
A consumer or a supplier of diesel fuel should be buying ahead of a shortage, no? The consumer wants to lock up supply now and the supplier wants to fill inventory if prices are going higher. Occam’s Razor says a falling price indicates falling demand from consumers (Why trucking fleets are expanding amid a freight slowdown) and perhaps suppliers think they can fill their storage tanks at lower prices.
Price will tell
Information is being distorted by inflation. Media is far from trustworthy. As much as I detest censorship, false narratives go viral all the time. The headline indicator is also a factor. Diesel spiked right before the “shortage” headlines and search volume exploded.
If diesel falls about 10 percent, it will complete a topping pattern. Crude will probably be at a new 52-week low if that happens. Whatever the media says, that will be a clear sign that the shortage is with demand, not diesel.
If the spread with crude widens, that’s clear evidence of tight supplies no matter which way diesel moves. If it can climb 40 percent above the November high and crude isn’t rising too, that’s the worst case scenario being hyped by financial and social media.
My bias remains on the short side. I am short energy currently via DRIP in the model portfolio, plus I have puts on COP in my personal options account. If demand falls, crude and energy will weaken too. If diesel does experience a major shortage, it will damage the economy and lower crude demand.
Update: Diesel sank with crude on Friday.