I did not think it possible but it was almost like the weekly Energy Information Agency report from the Department of Energy actually over shadowed the Federal Open Market Committee announcement on interest rates. Oh no! We have to focus on supply and demand again. Yikes! All right I guess it was hard to ignore some stunningly bearish EIA number but could the Fed be signaling that the economy is getting better be a bearish development in the energy patch?  

Let’s start with the EIA numbers. While in all the press surveys we called for an increase in crude supply, most were calling for a draw. So the market was expecting a big drop, yet instead they got a big build. The EIA reported that U.S. commercial crude oil inventories increased by 2.8 million barrels putting US crude supply at a bulging 335.6 million barrels. That number puts us well above the five year average and a healthy 10.6 percent above last year’s levels.

And as if that wasn’t enough, as the summer driving season becomes a distant painful memory, gasoline supply exploded! Put the kids in the other room for this one: US gas supplies increased and an obscene rate of 5.4 million barrels! Isn’t any one putting gasoline in their clunkers for heaven sake? Did anybody leave their house last week?  That puts supply at 213.1 million barrels blowing away the five year average and a whopping 10.7% above year ago levels.

Distillate inventories the parts of the report we are supposed to be worrying about this time of year came in well above expectations posing increase of 3.0 million barrels and above the upper boundary of the average range for this time of year.

On the demand side the EIA numbers seemed to suggest that demand is still tepid. Although we are seeing stronger demand than a year ago, you have to remember that we were recovering from the aftermath of some hurricanes. The EIA said that gasoline demand has averaged only 9.1 million barrels per day. Distillate fuel demand averaged 3.4 million barrels per day.

But wasn’t Wednesday the day that the Fed was suppose to rule the universe?! The Fed did make some changes from its last statement but were they enough to overcome this pathetically bearish oil report? The Fed said that, “economic activity has picked up following its severe downturn. Conditions in financial markets have improved further, and activity in the housing sector has increased. Household spending seems to be stabilizing, but remains constrained by ongoing job losses, sluggish income growth, lower housing wealth, and tight credit.  Businesses are still cutting back on fixed investment and staffing, though at a slower pace; they continue to make progress in bringing inventory stocks into better alignment with sales. Although economic activity is likely to remain weak for a time, the Committee anticipates that policy actions to stabilize financial markets and institutions, fiscal and monetary stimulus, and market forces will support a strengthening of economic growth and a gradual return to higher levels of resource utilization in a context of price stability.” In other words, the economy is getting better.

But what the market really wanted to know is when the Fed is going to stop printing money. Will quantitative easing end? Well not quite. But hopefully we are getting closer. The Fed said that, “To provide support to mortgage lending and housing markets and to improve overall conditions in private credit markets, the Federal Reserve will purchase a total of $1.25 trillion of agency mortgage-backed securities and up to $200 billion of agency debt (94% of which is already printed and complete) The Committee will gradually slow the pace of these purchases in order to promote a smooth transition in markets (and to an eventual increase in interest rates) and anticipates that they will be executed by the end of the first quarter of 2010."

That is the second extension by the Fed. All of the purchases were to be completed by the end of October, 2009.  The Fed also said that the Committee will continue to evaluate the timing and overall amounts of its purchases (printing of money to buy) securities in light of the evolving economic outlook and conditions in financial markets. The Federal Reserve is monitoring the size and composition of its balance sheet and will make adjustments to its credit and liquidity programs as warranted. (If things take a turn for the worse they reserve the right to turn the printing presses back on.)

Gold only received a minor bounce on the news and the dollar had a bit of a rebound and now it is up to the G 20 to make a macro differences. Oil still needs to break $68 to follow through on the downside and the market looks a bit oversold. A close below 68 opens up the floodgates down to $61 a barrel. Sell rallies but beware of a snap back.

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