Any hopes for an early rebound in oil following last week’s torrid plunge in WTI and Brent appear to be dashed, at least at the open, when WTI promptly tumbled below $48/barrel.
While there have been no materal adverse catalysts over the weekend, three factors are being mentioned by Sunday night trading desks as drivers behind the latest seloff.
First: price momentum has simply persisted from the Friday US selloff, as Asian funds catch up to the US action.
Second, some have pointed to a report by JPM’s Nikolaos Panigirtzoglou from Friday evening, which warns of “commodity downside” as a result of persistent near-record net long futures positioning, and warns that “a pending normalization/mean-reversion of spec positions in commodity futures has begun.” Here are some of the reports highlights:
- Spec positions stood at pretty elevated levels as of last Tuesday March 7th, the latest available snapshot, suggesting that this normalization is at its beginning rather than its end phase.
- Even if we assume that the change in the open interest since last Tuesday reflects entirely a build up of short spec positions or a reduction of long spec positions, the commodity position overhang would remain.
- This pending mean reversion in commodity spec positions is unlikely to be prevented by the growth of commodity index products.
- In our opinion, the demand for long positions in commodity futures contracts created by passive commodity index products acts merely as a background force.
- Mean reversion is primarily driven by active investors such as hedge funds and in particular CTAs.
- Simple return momentum trading models suggest that CTAs are turning incrementally more negative across most commodities.
- We get a similar overbought picture in commodity equities, by looking at the short interest of the biggest commodity stocks in world equity markets.
- Therefore any further unwinding of commodity futures positions is likely to be accompanied by an increase in the short interest of commodity stocks.
A third possible catalyst for the drop is the yet another prominent voice in the oil industry has slammed the OPEC gambit, this time Leonardo Maugeri, a “Senior Fellow with the Geopolitics of Energy Project and the Environment and Natural Resources Program at the Harvard Kennedy School’s Belfer Center”, though better known as the former head of strategy at Italian energy giant, Eni. His reported is titled simply “OPEC’s Misleading Narrative About World Oil Supply” and as the title suggests, Maugeri is the latest to point out that the OPEC emperor is naked and that OPEC’s actions have, at best, served as psychological support to oil prices:
At a time when energy market headlines focus mainly on OPEC cuts, observers may be forgiven for concluding that a supply crunch and higher prices are imminent. On the contrary, there is still too much oil in global markets. In this context, OPEC production cuts (which notably fall short of the original target envisaged by the organization) appear to serve mainly as a psychological support to oil prices.
… the global oil market remains highly vulnerable to the actual status of oil supplies. There’s a paradox: so far, OPEC’s effort to convey the message of an exceptional level of compliance with cuts has helped sustain oil prices—but in so doing it has also incentivized oil output increases in many countries. The United States is by far the main beneficiary of such price support. In early February, almost all US shale oil producers have presented plans to strongly increase their shale oil output in the course of 2017.
To make matters worse, a heavy global refinery maintenance of around 3 mbd—concentrated in March and April—would lower crude demand and could add to temporary crude builds. When it starts to ease, the OPEC and non-OPEC cuts will be close to expiration—June 30, 2017.
Whatever the reason, for now the selling has continued, and if JPM is correct and momentum and trend chasing CTAs are now in charge, the next level may be far – and sharply – lower from current prices.
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