Can We Expect A Rebound Rally Anytime Soon?

The last week in oil trading has seen a continuation of the ‘mini-bear’ market we worried about last week, including a particularly violent $3 dollar drop in crude on Tuesday. Assessing the importance of this action for the short term is the easier of this column’s two tasks – the longer-term health of the oil market is tougher to assess from the trader signs I have been seeing.

So, let’s get started:

We recognized last week the flood of speculative longs that had begun escaping from the oil market, and noted the likelihood that that trend would continue. And continue it did – but with the added fuel of the statement from Saudi oil minister Al-Falih of the Saudis ability to ramp up and cover any shortfalls that might result from upcoming Iranian sanctions.

Despite the (almost) capitulation-like violence of the resultant move that day, volume did not seem extreme for the move, with ‘only’ 1.3m December contracts trading; significant, but below what I would consider overwhelming – consider the up volume of 21 September and the down volume of 17 October, for example.

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Besides volume, we also note the likely crossover about to take place in the slow stochastic – indicating that this move downwards was too fast and that a likely technical rally is about to take place.

More indicators of the likelihood of at least a short term recovery in crude oil can be seen in the curve of spread prices – again I am going to use my favorite 3-month spread as a benchmark for the curve at large (CLZ8-CLH9):

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Here is an even more obvious pattern of at least a short-term turnaround of the longer term trend towards deeper contango. Again, stochastics have already crossed below 20 and the technical rally, for what’s it worth, has already taken back 25 spread points. The wide spread on Bollinger bands also indicates a move in the opposite direction is continuing to brew.

But what of the long term? Here, the market is less clear. Fundamentally, the overhang from the Khashoggi incident will clear, and the promises of Saudi capability to keep oil markets well supplied is countered by the statements of the Iranian oil minister – and here, I tend to think that Iran has a point, with a possible loss of 1.2m b/d from fresh sanctions. OPEC’s demand picture for 2019 has been revised downwards, but still, their revised 1.3m b/d of growth would be one of the sharpest increases in history. This is countered by the continuing Trade war with China and of course, the looming threats of a global slowdown. A mixed bag, although much of the negatives to the market do not seem at this point to be systemic – at least not yet.

Ignoring everything, and just looking at market action – which is often the only right thing to do – the continuing pressure towards a deeper crude contango and the relative weakness of gasoline cracks does not normally bode well for the markets in the medium term.

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So, while I believe there is a technical rally afoot, until I see a further drop in speculative longs and better breadth to some of the other indicators I’ve mentioned here, I believe this is a rally that needs – at least the first time up – to be sold.