Analys
Orange juice: Declining supply meets weak demand
In oranges and orange juice, the outlook for both supply and demand is dim. Especially in the US, a declining supply will meet with softening demand. Supply concerns were in focus for months, causing prices to rise. But disappointing US consumption data and a lack of strong storms in the south of the US turned the price movement around in the summer. Prices were able to regain ground recently as estimates see Florida’s harvest as from October at a 50-year low and California is supposed to harvest fewer oranges as well. The price for frozen concentrated orange juice, which strongly depends on the US market, will probably continue to fluctuate for a long while, driven by declining supply and similarly declining demand.
Prices for frozen concentrated orange juice on the New York exchange have not been able to sustain their month-long uptrend that was intact until June. Instead, they dropped by more than 15% between the middle of June and the first days of August. Only at the current margin could the quotations regain some ground, rising from 139 US cents to nearly 150 US cents per pound. Though the two-year high of mid-June at 167 US cents per pound is still some ways away (chart 1).
The focus was therefore very much on the supply side. The month-long price rise until June had been triggered by prospects of a lower US supply. In fact, the last harvest in the US was already unsatisfactory. In its July report the USDA once more reduced its estimate for the 2013/14 US harvest compared to its last forecast from January. It now envisages only 6.3 million tons of oranges, 16% less than in 2012/13 (chart 2). This is the second large consecutive decline. The plant disease citrus greening, which causes the fruit to drop prematurely, still maintains its grip on large parts of the growing regions. As a result of the lower harvest, US orange juice production should come in at 481,000 tons, 20% below 2012/13 levels, which were already lower than in the previous year.
Moreover, the drought in Brazil spurred doubts as to whether rising production in Brazil would be able to compensate for the decline in the US. For Brazil, the USDA had predicted in January that the 2013/14 orange harvest would increase by 8.5%, but this forecast was cut to 6% in July. This still remarkable rise is largely attributable to high yields. The quantity of oranges used for processing is seen to rise at a similarly strong rate. As a result, Brazil’s orange juice production, which had fallen massively by almost a quarter in 2012/13, is now expected to post a 12% increase.
Unlike global orange production itself, where growth not only in Brazil but also in China will probably more than offset the decline in the US, global orange juice production should stagnate in 2013/14 in the best case according to the USDA. Juice production had already declined in the two preceding years.
However, not only juice production but also the consumption of orange juice is lacking momentum. Global consumption has for years been fluctuating around the mark of 2 million tons (chart 3). Consumption is clearly declining in the US – the most important market alongside the EU. US per-capita consumption of orange juice has reportedly fallen from 46 litres ten years ago to only 35 litres in 2013. According to latest data, US retailers sold 9% less orange juice than one year before in the four weeks ending on 2 August 2014. A wide range of other juices and new developments in other beverages are now competing with orange juice. Also, many consumers prefer beverages with lower sugar content or lower prices. In other developed countries, too, the market for orange juice should be largely saturated. Double-digit growth rates in some other countries, such as China, for instance, cannot reverse this outlook, given the low absolute figures.
But the market is now looking less at the current year 2013/14 than at the coming season. The year 2014/2015 as measured by the USDA begins in October or November in countries in the northern hemisphere. In Brazil, by far the most important country in the southern hemisphere, it even only starts in July 2015. The first USDA forecasts are only expected for autumn. In the US, the orange harvest for 2014/15 should thus get underway in a few weeks. Prospects are far from promising. Estimates are circulating according to which Florida’s orange production, which normally accounts for about 70% of total US production, could fall to less than 90 million boxes of 90 pounds (or 40.8 kilograms) each. This would be less than 3.7 million tons, i.e. the lowest level since 1965. Since according to latest USDA data, Florida harvested 133.6 million boxes in 2012/13 and 104.4 million boxes in 2013/14, this would be a fall by about another 15% compared with the already weak current year. Not all watchers anticipate such a dramatic situation. But there is broad agreement that the harvest will likely remain below 100 million boxes. In California, the only other important growing state in the US, the drought will presumably leave its mark. The situation there has been difficult since 2012 and has become further exacerbated in recent weeks, and more than half of the acreage currently falls in the highest category of “exceptional drought”. The critical outlook for US production has recently given prices a bit of a lift.
It remains to be seen whether in the present situation of weak demand the continuing decline in supply can contribute to noticeable price rises on a lasting basis. We only expect this to happen if supply shortfalls attributable to storms or diseases turn out even larger than currently expected. Fears of a marked hurricane season have driven up prices often already. This year has been relatively calm so far, but the hurricane season only ends in November. Hence, stormrelated crop losses in Florida are still a possibility.
Market is starting to take US/Iran headlines with a pinch of salt. Brent crude rose $2.8/b yesterday to an official close of $112.1/b. But after that it traded as low as $108.05/b before ending late night at around $109.7/b. Through the day it traded in a range of $106.87 – 112.72/b amid a flurry of news or rumors from Iran and the US. ”US temporary sanctions during negotiations” (falls alarm). ”We will bomb Iran” (not anyhow),… etc. While the market is still fluctuating to this kind of news flow, it is starting to take such headlines with a pinch of salt.
We’ll see. Maybe, maybe not. The Brent M1 contract is trading at $110.2/b this morning which very close to the average ticks through yesterday of $110.4/b.
Trump with bearish, verbal intervention whenever Brent trades above $110/b it seems. What seems to be a pattern is that Trump states something like ”very good negotiations going on with Iran”, ”New leaders in Iran are great,..”, ”Great progress in negotiations,…”, ”Deal in sight,..” etc whenever the Brent M1 contract trades above $110/b. An effort to cool the market. These hot air verbal interventions from Trump used to have a heavy bearish impact on prices, but they now seems to have less and less effect unless they are backed by reality.
As far as we can see there has been no real progress in the negotiations between the US and Iran with both sides still standing by their previous demands.
Iran is getting stronger while the cease fire lasts making a return to war for Trump yet harder. Iran is naturally in constant preparation for a return to war given Trump’s steady threats of bombing Iran again. Iran is naturally doing what ever is possible to prepare for a return to war. And every day the cease fire lasts it is better prepared. This naturally makes it more and more difficult and dangerous for the US to return to warring activity versus Iran as the consequences for energy infrastructure in the Persian Gulf will be more and more severe the longer the cease fire lasts. Israel seems to see it this way as well. That the war is not won and that current frozen state of a cease fire gives Iran opportunity to rebuild military and politically.
Global inventories are drawing down day by day. How much? In the meantime the Strait of Hormuz stays closed. There is varying measures and estimates of how much global inventories are drawing down. Our rough estimate, back of the envelope, is that global inventories are drawing down by at least some 10 mb/d or about 300 mb/d in a balance between loss of supply versus demand destruction. Other estimates we see are a monthly draw of 250-270 mb/d. The IEA only ’measured’ a draw in global observable stocks of 117 mb in April with oil on water rising 53 mb while on shore stocks fell 170 mb. But global stocks are hard to measure with large invisible, unmeasured stocks. As such a back of the envelope approach may be better.
Oil products is what the world is consuming. Oil product prices likely to rise while product stocks fall. Strategic Petroleum Reserves (SPR) are predominantly crude oil. Discharging oil from OECD SPR stocks, a sharp reduction in Chinese crude imports and a reduction in global refinery throughput of 6-7 mb/d has helped to keep crude oil markets satisfactorily supplied. But global inventories are drawing down none the less. And oil products is really what the world is consuming. So if global refinery throughput stays subdued, then demand will eventually have to match the supply of oil products. The likely path forward this summer is a steady draw down in jet fuel, diesel and gasoline. Higher prices for these. Then, if possible, higher refinery throughput and higher usage of crude in response to very profitable refinery margins. And lastly sharper draw in crude stocks and higher prices for these. But some 6 mb/d of oil products used to be exported through the Strait of Hormuz. And it may not be so easy to ramp up refinery activity across the world to compensate. Especially as Ukraine continues to damage Russian refineries as well as Russian crude production and export facilities.
Watch oil product stocks and prices as well as Brent calendar 2027. What to watch for this summer is thus oil product inventories falling and oil product premiums to crude rising. Another measure to watch is the Brent crude 2027 contract as it rises steadily day by day as the Strait of Hormuz stays closed and global oil inventories decline. The latter is close to the highest level since the start of the war and keeps rising.
The Brent M1 contract and the Brent 2027 prices and current price of jet fuel in Europe (ARA). All in USD/b
Our back of the envelope calculation of the global shortage created by the closure of the Strait of Hormuz. Note that 3.5 mb/d of discharge from SPR is also a draw. Note also that ’Forced demand loss’ of 2.5 mb/d is probably temporary and will fall back towards zero as logistics are sorted out leaving ’Price demand loss’ to do the job of balancing the market. Thus a shortfall of at least 9 mb/d created by the closure. More if SPR discharge is included and more if Forced demand loss recedes.
Brent is climbing higher. Front-month is at USD 106.3/bl this morning, close to a weekly high and a USD 9/bl jump from Mondays open. This is the move we flagged as a risk earlier in the week: the market shifting from ”a deal is around the corner” to ”this is going to take longer than we thought”.
Analyst Commodities, SEB
During April, rest-of-year Brent remained remarkably stable around USD 90/bl. A stability which rested on one single assumption: the SoH reopens around 1 May. That assumption is now slowly falling apart.
As we highlighted yesterday: every week of delay beyond 1 May adds (theoretically) ish USD 5/bl to the rest-of-year average, as global inventories draw 100 million barrels per week. i.e., a mid-May reopening implies rest-of-year Brent closer to USD 100/bl, and anything pushing into June or July takes us meaningfully higher.
What’s changed in the last 48 hours:
#1: The US military has formally warned that clearing suspected sea mines from SoH could take up to six months. That is a completely different timescale from what the financial market is pricing. Even a political deal tomorrow does not immediately reopen the strait.
#2: Trump has shifted his tone from urgency to ”strategic patience”. In yesterday’s press conference: ”Don’t rush me… I want a great deal.” The market is reading this as a president no longer feeling pressured by timelines, with the naval blockade running in the background.
#3: So far, the military activity is escalating, not de-escalating. Axios reports Iran is laying more mines in SoH. The US 3rd carrier strike group (USS George H.W. Bush) is arriving with two countermine vessels. Trump yesterday ordered the US Navy to destroy any Iranian boats caught laying mines. While CNN reports that the Pentagon is actively drawing up plans to strike Iranian SoH capabilities and individual Iranian military leaders if the ceasefire collapses. i.e., NOT a attitude consistent with an imminent deal!
Spot crude and product prices eased off the early-April highs on a combination of system rerouting and deal optimism. Both now weakening. Goldman estimates April Gulf output is reduced by 14.5 mbl/d, or 57% of pre-war supply, a number that keeps getting worse the longer this drags on.
Demand-side adaptation is ongoing: S. Korea has cut its Middle East crude dependence from 69% to 56% by pulling more from the Americas and Africa, and Japan is kicking off a second round of SPR releases from 1 May. But SPRs are finite.
Ref. to the negotiations, we should not bet on speed. The current Iranian leadership is dominated by genuine hardliners willing to absorb economic pain and run the clock to extract concessions. That is not a setup for a rapid resolution. US/Israeli media briefings keep framing the delay as ”internal Iranian divisions”, the reality is more complicated and points toward weeks and months, not days.
Our point is that the complexity is large, and higher prices have only just started (given a scenario where the negotiations drag out in time). The market spent April leaning on the USD 90/bl rest-of-year assumption; that case is diminishing by the hour. If ”early May reopening” is replaced by ”June, July or later” over the next week or two, both crude and products have meaningful room to reprice higher from here. There is a high risk being short energy and betting on any immediate political resolution(!).
Down on Friday. Up on Monday. The Brent June crude oil contract traded down 5.1% last week to a close of $90.38/b. It reached a high of $103.87/b last Monday and a low of $86.09/b on Friday as Iran announced that the Strait of Hormuz was fully open for transit. That quickly changed over the weekend as the US upheld its blockade of Iranian oil exports while Iran naturally responded by closing the SoH again. The US blew a hole in the engine room of the Iranian ship TOUSKA and took custody of the ship on Sunday. Brent crude is up 5.6% this morning to $95.4/b.
The cease-fire is expiring tomorrow. The US has said it will send a delegation for a second round of negotiations in Islamabad in Pakistan. But Iran has for now rejected a second round of talks as it views US demands as unrealistic and excessive while the US is also blocking the Strait of Hormuz.
While Brent is up 5% this morning, the financial market is still very optimistic that progress will be made. That talks will continue and that the SoH will fully open by the start of May which is consistent with a rest-of-year average Brent crude oil price of around $90/b with the market now trading that balance at around $88/b.
Financial optimism vs. physical deterioration. We have a divergence where the financial market is trading negotiations, improvements and resolution while at the same time the physical market is deteriorating day by day. Physical oil flows remain constrained by disrupted flows, longer voyage times and elevated freight and insurance costs.
Financial markets are betting that a US/Iranian resolution will save us in time from violent shortages down the road. But every day that the SoH remains closed is bringing us closer to a potentially very painful point of shortages and much higher prices.
The US blockade is also a weapon of leverage against its European and Asian allies. When Iran closed the SoH it held the world economy as a hostage against the US. The US blockade of the SoH is of course blocking Iranian oil exports. But it is also an action of disruption directed towards Europe and Asia. The US has called for the rest of the world to engaged in the war with Iran: ”If you want oil from the Persian Gulf, then go and get it”. A risk is that the US plays brinkmanship with the global oil market directed towards its European and Asian allies and maybe even towards China to force them to engage and take part. Maybe unthinkable. But unthinkable has become the norm with Trump in the White House.
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Oil product price pain is set to rise as the Strait of Hormuz stays closed into summer
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