Oil Traders Overstretch Futures Market

Oil traders have been gobbling up futures in the six most traded crude and fuel contracts on that market for four weeks now. It's easy to see why: it was enough for Saudi Arabia and Russia to announce an extension of their 1.3-million-bpd combined supply cut, and traders stopped obsessing over demand in China.

By now, however, traders have placed so many bullish bets that, according to Reuters' market analyst John Kemp, oil prices are due for a correction.

In his latest column on oil buying among institutional traders, Kemp pointed out that over the past four weeks, traders had bought a total of 183 million barrels of crude and fuel futures. That has brought the total up to 525 million barrels. More importantly, the ratio of bullish to bearish bets on oil and fuels had risen to almost 8:1.

According to Kemp, this is a sign that oil prices may start reversing their gains before too long. Others, however, anticipate even higher prices, with JP Morgan saying this week that Brent could reach $150 per barrel. Other commodity analysts see Brent hitting $100 before this year's end. "The oil market has held relatively steady in recent days with tightness in the physical market coupled with Russia's recent export ban on diesel and gasoline offset by a fairly hawkish FOMC meeting last week. As a result, Brent continues to hold above US$93/bbl," ING's Warren Patterson and Ewa Manthey said in a note earlier today.

This may not last very long, however, according to some analysts. A Reuters report from this week noted that high interest rates could soon begin to undermine demand for oil while supply from non-OPEC nations grows. Also, supply from Russia is projected to expand, too, at some point in the near future.

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"If energy prices increase and stay high, that'll have an effect on spending, and it may have an effect on consumer expectations for inflation, things like that. That's just things that we have to monitor," Fed chairman Jerome Powell said last week.

Indeed, energy prices are certainly things to be monitored-and monitored closely. The Fed has been balancing between recession and growth for months now, and it has proved it was willing and able to make risky moves such as an extended series of rate hikes to fix the U.S. economy.

This has made life more expensive for everyone, but it appears it has not been enough to sap the demand for oil. According to analysts from Morgan Stanley, the price rise "must be sustained for some time to have a greater, more durable effect on core prices."

Regarding non-OPEC supply growth, it usually refers to U.S. supply growth, which is not exactly a certainty these days. Indeed, Occidental Petroleum's chief executive Vicki Hollub said this week that the company had no intention of changing its production plans despite oil's surge above $90 per barrel.

"We don't increase oil significantly in a market where we don't see the balance," Hollub told Bloomberg in an interview. "Only in a market where we see balance would we increase our production - and even then, it would be at a moderate pace."

This suggests that demand destruction is indeed on the way as supply remains constrained and inflation bites into the Western world's spending habits. It is virtually a certainty if conditions remain unchanged. Luckily for the regular driver, they are unlikely to remain unchanged for very long. It is a fine balancing act between pushing prices higher and pushing them too high-and OPEC's leader, Saudi Arabia, and its partner in the cuts, Russia, both know it.

By Charles Kennedy for Oilprice.com

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