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Oil Producer Report

Crude Oil Trading Report: Oil price late rally triggers CTA buy signals – Inflection points decisive early next week

By July 15, 2017No Comments

The main event this week was not the “beat” in DOE inventory data, Shell’s force majeure on Bonny light or OPEC related news.  The single most important event, in our opinion, was the technical levels reached on the late week rally with WTI settling at $46.54 and ICE Brent at $48.91 bbl.

Early next week will be critical for the shorts as they suddenly (and quietly) go from full control to a potentially a very different position. As our clients know, we believe it is critical in the current market to be on top of these pivot points.  We define and clearly state these key all-important CTA market levels in this report.

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PRICE ACTION & POSITIONING: Let us be clear, in our opinion, nothing matters more, in the current market, than the CTA/ trend following fund levels. Anything else, including high quality fundamental supply/demand analysis, takes a backstage.  It may annoy some, it makes for non-pretty trading and client discussions less “hedged” with the usual mix bag of fundamental variables. But whether we like it or not, we believe these are the facts as the market stands right now. All that we read at the moment is the ‘’street’’ cherry-picking news to justify price movements.

Importantly, for our clients, oil market trading sentiment has stealthy changed between early last week and the Friday close. The week started, as has often been the case recently, with sentiment beaten down, this time despite large US stock draws reported during the previous week.   Brent traded down to $46.11 bbl on Monday with no buyers stepping up.

Volatility picked up mid-week with Wednesday’s price action somewhat extreme post a constructive DOE report. It was the second consecutive week of impressive draws (beating expectations and APIs guidance by a good margin).

The immediate reaction was to pull Brent higher to $48.79 bbl, where at that point, a 20k lot sweep took prices down almost $1.50 bbl to the $47.35 bbl level.  Such price action was not the result of producer type hedging business, but clearly showed that CTAs were using post-stats volume as a liquidity point to pile in shorts.

At that point, they had clear targets and continued to use higher prices to “reload”. Although the market was (and remains) positioned short, throughout the session there was no stress to cover positions.

Then, without a clear catalyst, Thursday saw a reversal in oil price, perhaps from some realising that fundamentals are not as bad as “the street” says after all.

The rally managed to pick up momentum despite US producers coming out to hedge Cal18 WTI, primarily via swaps and zero-cost 3-way structures.  Brent settled the week on the highs and the last trading tick on the electronic platform for the week was above the $49 bbl line ($49.09 bbl).

Gasoline remained the right assets to use as the key leading indicator of Brent price direction, as on Thursday it traded above its 200 day-moving-average (DMA). Subsequently, this triggered CTAs to cover short positions across the energy sector (note that gasoline is now 1.3% away from its 100 DMA).

What this triggered in oil is very interesting as it is the first time in weeks, that prices have put these CTA levels so closely at risk. Brent settled above all its short-term DMAs and is a few cents from its 50 DMA (at $49.49 bbl). Chart stochastics also point that there is potential for continuation of a move higher.

Chart 1 | ICE Brent Price with key price points for the week ahead | Daily YTD

Chart 1 | ICE Brent Price with key price points for the week ahead | Daily YTD

Brent is now very close to a key pivot point level at $49.87 bbl (less than $1.00 bbl away): the 50% retracement from recent peak to trough.  The market failed to close above this level the prior week and subsequently a near $4.00 bbl drop ensued. – SEE CHART 1 for key momentum and technical levels.

The current price area is now a problem for short CTAs and they will need to push prices lower right from the open in Asia hours. The reason we are so adamant, is that immediately above $49.00 bbl there is a cluster of positioning where large volume weighted average price (VWAP) and significant changes to open interest were initiated (backed by our analysis).  Simply put, it is the level to watch where the large shorts would be “caught offsides”.

CTAs /trend following funds have essentially “bullied” the paper market for several weeks now. Tailwinds from long oil portfolio unwinds and clear pivot points have worked incredibly well. It is the first time in a long time, that CTA short positioning could be challenged in this way.

If these price levels trigger short covering, we can expect to see the sell-side research flip their views and point to less bearish, and then eventually outright bullish news.   Price makes the news in markets.

We remind our readers that there is a lot of “dry powder” on the side-lines, needing a positive oil narrative for length to re-enter the market. Passive index money remains significantly under-invested across the oil and refined carbon complex currently. For perspective, at least $30 – $40 bil of inflows in oil is required to just bring it to the 5yr average.

PRODUCER FLOWS: From the producer hedging point of view, it was quiet until Wednesday, where the US oil producers came out and sold Cal18 WTI post-DOE stats. Producer hedging picked up in volume on Thursday and Friday with higher prices. We would not rate producer hedging flows seen so far as massive in any way, shape or form, especially when considering the underhedged Cal18 node for US producers.  In WTI, the key number US producers are trying to achieve is $48 bbl in CAL18, that equates to ~$50 – $51 bbl in the Brent swap for Cal18 (definitely price not there yet). Note that our flow analysis indicates that US hedgers entered Cal18 at $46.50 bbl as a first, relatively high-volume entry point.

As a follow-up to last week and as we noted concerning the Mexican hedge program, it does not appear to be going through the market at present and it was not a key driver for lower oil prices in the last two weeks.

Our clients know our view on fundamentals: we did not share the extreme enthusiasm earlier in the year, and we are currently much more constructive then consensus for the balance of the year (flat price, but especially time spreads).  In this report, we deliberately put these views to the side and focus on price action and key pivot points to monitor.

The derivatives market is pricing Brent for the year-end within the $42.25 – $60 bbl range.  The current forward curve is $6 – $8 bbl below the latest average analyst forecasts. Note options volatility deferred on the curve was on the offer side as US producer structures are net selling volatility.

Contact CTC to know more about our risk-management, hedging related services and trading views: contact@comtradingcorp.com.

Chart 2 | Direction for visible light sweet barrels? | Source: Morgan Stanley, Clipper Shipping Data

Chart 2 | Direction for visible light sweet barrels? | Source: Morgan Stanley, Clipper Shipping Data

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Commodities Trading Corporation is a London-based private advisory company specialized in commodity risk-management and hedging. We service a growing need in the natural resources sector for unbiased and strong expertise and provide our services to an array of corporate clients and financial institutions. We are experts in derivatives and monetizing volatility and develop corporate strategies for hedging energy portfolios, using bespoke derivatives solutions for price risk mitigation.

For more information about what we do, how we can optimize your hedges and directly improve your bottom line, contact us at contact@comtradingcorp.com.

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