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Jim Hyerczyk

Jim Hyerczyk

Fundamental and technical analyst with 30 years experience.

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Look To Hedge Funds For A Clue About Oil Prices

oil rigs

U.S. West Texas Intermediate and international-benchmark Brent crude oil futures are in a position to close higher for the third consecutive week.

The market is being supported by strong demand, ongoing production cuts from the OPEC-led deal to stabilize prices and looming U.S. sanctions against major crude exporter Iran which could lead to supply disruptions. Gains are being limited by worries over increasing U.S. production.

Early this week, the U.S. Energy Information Administration reported that U.S. crude inventories dropped by 1.4 million barrels in the week to May 11, to 432.34 million barrels.

Not all the news was bullish on Wednesday, the International Energy Agency (IEA) said on Wednesday that it had lowered its global oil demand growth forecast for 2018 from 1.5 million barrels per day (bpd) to 1.4 million bpd.

The IEA also said global demand would average 99.2 million bpd in 2018. Additionally, the IEA said although supplies currently only stand at 98 million bpd due to supply cuts led by OPEC, the IEA said that “strong non-OPEC growth…will grow by 1.87 million bpd in 2018.”

Brent Crude WTI Crude Spread Widens

The spread between internationally-favored Brent crude oil and U.S. WTI crude oil continues to widen. This makes sense since the U.S. sanctions against Iraq are likely to lead to some supply disruption although we may not see the full impact of the supply reductions until November. This news is supportive for Brent crude.

They say all ships will rise with the tide and this may be the case with crude oil, but don’t expect WTI crude oil to rise as fast as Brent crude oil. This is because of surging U.S. production, which now sits at a record 10.72 million bpd.

Traders are also saying that United States production is ready to overtake Russia production. Additionally, as a result of surging production, U.S. crude is increasingly appearing on global markets as exports.

Backwardation Has Returned.

The crude forward curve is in firm backwardation, a structure that suggests a tight market as prices for immediate delivery are higher than those for later dispatch. For example, front-month Brent prices are now almost $2.60 per barrel more expensive than those for delivery in December.

This price action indicates speculators are betting on strong demand as well as looming disruptions due to renewed U.S. sanctions against Iran and falling output in Venezuela. Professionals are scrambling to buy all the oil they can get because of fears that U.S. shale producers will make up any short-falls in supply over the longer-term.

The trend is your friend at this point so unless there is a surprise announcement from the U.S. about lifting sanctions against Iran, of if other countries come out strong against the sanctions, prices should continue to grind higher.

July WTI Monthly Technical Analysis

(Click to enlarge)

The main trend is up according to the monthly swing chart. The market isn’t close to turning the trend down. The only chart pattern to watch for is a closing price reversal top. However, this shouldn’t be a concern unless the market breaks under last month’s close at $68.48.

The main range is $89.51 to $40.02. Its 50% to 61.8% retracement zone is $70.60 to $64.77. Holding above this zone reaffirms the strong upside bias. Treat this zone like support.

Also providing support is a steep uptrending Gann angle at $66.98. This angle provided support earlier in the month. A breakdown under this angle will also be a sign of weakness.

The monthly chart indicates there is plenty of room to the upside with the next major resistance angle coming in at $78.01.


Technical factors could also stop the rally because prices are at or nearing what technicians call “overbought” levels. I tend to look at hedge fund activity to tell me if a market is “overbought”. If hedge fund and other commodity fund managers continue to be willing to buy strength in the market then prices should continue to rise.

We may see a few downswings in the market, but it’s going to take 3 to 5 days to change the trend to down on the daily chart. However, the weekly and monthly charts indicate this is a strong uptrend so any weakness on the daily chart is likely to be bought up fairly quickly.

Trading conditions are relatively calm, but volatility could return with the release of the weekly oil rig count. I suspect this report could show a huge jump in the number or working rigs. This could put short-term pressure on oil prices.

Look for the market to continue to strengthen on a sustained move over $70.60. Falling below this level will indicate that sellers are coming in, but the trend shouldn’t be affected unless the selling is strong enough to take out $66.98.

Natural Gas

July natural gas prices are in a position to close higher for the week. Bullish traders are increasing bets that the summer cooling season will begin with a sizable storage deficit. This will make it difficult to fill the supply gap and prices should rise on this event. So essentially, the next move will be determined by the weather.

According to the U.S. Energy Information Administration, domestic supplies of natural gas rose by 106 billion cubic feet for the week-ended May 11. Analysts had forecast an increase of 105 billion cubic feet and on average over the last five years for the same week, inventories rose by 67 billion cubic feet.

Total stocks now stand at 1.538 trillion cubic feet, down 821 billion cubic feet from a year ago.

Currently to the EIA, natural gas stocks are 501 billion below the five-year average. This gap is unusually wide so it is going to take a series of triple digit storage builds to fill it. Above-average temperatures are going to slow down this process.

Natural gas rose on Thursday following the release of a weekly government report on supply. The report was right on target with the forecasts, but this was old news and traders were likely pricing in increasing demand due to rising temperatures.

The weather will be the main market driver at this time. Forecast models are pointing to above-average temperatures covering most of the country through the end of May.

July Natural Gas Technical Analysis

(Click to enlarge)

The main trend is up according to the weekly swing chart. The trend turned up on Thursday when buyers took out the previous swing top at $2.878. The weekly chart indicates the next potential upside target is the main top at $2.919. Taking out this top will reaffirm the uptrend, setting up a possible run into the February top at $3.010.

There is a solid floor of support from $2.680 to $2.722. Sellers would have to take out this area to turn the trend down.

The main range is $2.605 to $3.010. Its 50% to 61.8% retracement zone is $2.808 to $2.760. Trading on the strong side of this zone is also helping to generate the building upside bias. Traders should treat this zone like support.

It may be too early to actually breakout to the upside, but as long as buyers continue to build a support base at or near $2.808 to $2.760 then the odds will increase for a strong summer rally.

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