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Tsvetana Paraskova

Tsvetana Paraskova

Tsvetana is a writer for the U.S.-based Divergente LLC consulting firm with over a decade of experience writing for news outlets such as iNVEZZ and…

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Are Hedge Funds Falling Into An Oil Market Bear Trap?

Barrels

Oil prices have had a bumpy ride over the past month. On June 21, they hit a ten-month low amid concerns over rising supply from the U.S., Libya, and Nigeria, and over lack of evidence that OPEC was really prepared to do “whatever it takes” to draw down global oversupply.

Then the price of oil crept up from the lows, logging in eight consecutive winning sessions before July 4—the longest bullish run since 2012—with WTI gaining 11 percent since it touched the 10-month low two weeks ago.

And then on Wednesday, WTI plummeted by 4 percent in a single day, the worst day in three weeks. Early on Thursday, oil prices were up by more than 1.5 percent at 8:30am EDT, after the American Petroleum Institute (API) reported on Wednesday afternoon a sizeable draw of 5.764 million barrels in United States crude oil inventories, compared to analyst expectations that we would see a more modest 2.83-million-barrel draw for the week ending June 30.

In the middle of oil’s longest winning streak since 2012, traders rushed to cover bets that prices would fall, and short covering was one of the reasons for the rise in oil prices, the other being a weaker dollar, lower U.S. crude production for the week to June 23, and a U.S. rig count showing that rigs fell by one, to end the U.S. shale patch’s impressive run of 23 weeks of steady gains.

Money managers had piled up a record number of short positions, amassing 510 million barrels in the major contracts on Brent, WTI, U.S. gasoline, and U.S. heating oil on June 27, Reuters market analyst John Kemp writes. That amount of short positions set the stage for a short-covering rally at the end of June.

Since the end of May—when OPEC decided to extend the production cuts into March 2018—hedge funds and other money managers had added 200 million barrels of extra short positions until June 27. Since mid-February this year, money managers had added 377 million barrels until the beginning of last week.

The record number of short positions suggests that fund managers have grown increasingly pessimistic since the end of May. They had more short positions on June 27 this year than on January 12, 2016, when oil prices were at US$30.

In the three main crude contracts—NYMEX WTI, ICE WTI, and ICE Brent—fund managers still held a net long position of 357 million barrels at June 27, but this compares to a net long position of 589 million barrels on May 30 this year, and a record long 951 million barrels on February 21 this year, Kemp writes. Related: How “Zombie” Funds Are Disrupting Oil Prices

According to a report by private wealth management company ATB Holdings from July 4, “Technical analysis indicators show that oil is oversold, which means there are more bears in the market than bulls and the momentum down has started to slow down.”

“Funds have built a huge short position in the last few weeks, if these funds decided to cover their shorts, it could trigger the short-term increase in prices,” ATB Holdings said.

“The market players got carried over with the short selling, some of these positions will be cleared with the price increase,” Charles Sutton, Director of Investment Management Division at ATB Holdings, noted.

According to ATB Holdings advisory Andrew Hayward, oil fundamentals are not pointing north, but “the move up will present an opportunity for a better place to sell”.

While short speculators tend to influence the oil market in the short run, in the long run, supply and demand are the main factors for oil price trends, ATB Holdings says.

According to the latest CNBC Oil Survey released on Monday, 60 percent of 15 oil market experts polled concur that OPEC has lost control over the oil market, but an equal percentage of experts believe that the cartel would continue to try to talk up oil prices. A total of 53 percent of participants see the bottom for oil in the low US$40s, but a good 70 percent would not exclude a possible slide into the US$30s. If oil drops below US$40, a total of 46 percent of experts see it holding onto the high US$30s.

Forty-seven percent see oil prices ending 2017 in the range US$40-49, while 33 percent expect the price of oil in the US$50-59 range at the end of this year.

By Tsvetana Paraskova for Oilprice.com

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