Bullish Crude Oil ETFs Showing Strength

Spot NYMEX crude oil racked up an impressive $5.33 or 9.5% gain last week as the June contract went off the board and the July took over. For the second week in a row and only the fourth time so far this year, the DOE reported a draw in crude inventories last Wednesday. Crude oil stocks were reduced by 2.1 million barrels, which is perceived as bullish, but we must keep in mind that total supply is still at an overflowing 15-year high.

Increased militant attacks to Nigeria’s oil infrastructure captured headlines last week and may have played a roll in crude’s bullish momentum. Nigeria, the fifth largest source of oil to the United States, has been plagued with attacks on pipelines and drilling platforms, especially in the Niger Delta region. Because of this fear from sabotage and worse - kidnapping or murder of oil workers - Nigeria has seen its production capacity almost cut in half over the last few years.

The ramp up of the summer driving season from Memorial Day through the July 4^th weekend may also be to blame for the increase in oil prices. Retail gasoline prices jumped to $2.30 a gallon last week, which is still far below last year’s $4+ a gallon, but still a jump of $0.30 gal from last month. Following a seasonal trend, prices at the pump should peak from now until mid-July and then start to ease off as the driving season fades.

The strong correlation between equity markets and crude oil that we have seen over the past few months seemed less prevalent last week. The S&P only managed one day in positive territory, while crude only had one losing session. However, both finished the week to the upside, but for the S&P, a less than one half of one percent gain, was nothing to write home about.

USO, DXO and OIL all showed strength as their underlying commodity stayed above the $60 critical point of reference. DTO, however, took a nose dive of almost $30 or 21%, which was almost quadruple the inverse of crude’s gain. USO is still a short-term play until the front month NYMEX contract holds a premium to the next month, i.e. if/when July is more expensive than August -- which isn’t the case right now.

Further ETFs, support analysis and graphs available here.

Comments

[Heythere:]

With regards to commenting on the "quadruple" inverse of the gain for DTO, you may want to indicate that you are referring to the nominal amount. The fund is performing as it is supposed to, which is -2X the % return, not the nominal amount.

May 27 01:45 PM

[RiskReturnO...:]

Safest ETF to benefit from rising crude oil is XLE, especially after pullback to the $46-$48 area, where it has found strong support.

Crude has been hitting higher highs on falling dollar. XLE has pulled back on overall weakness in US equities. Studying the historical patterns, this disconnect does not last too long. Either Oil has to pull back to mid $50's to justify the current price of XLE, or the XLE have to rise to account for higher crude.

For those wanting a good risk-reward optimized trade, consider long XLE position with covered call, by selling the December $50 calls, which recently produced $5 of premium.

This way, you are protected down to $44 ($49 current price - $5 premium) in case oil and SPY both pull back.

If oil stays flat and SPY stays flat for the rest of the year (a pretty likely scenario), you are "guaranteed" roughly 12% return ($5 premium / $49), plus 2% dividend from the XLE shares.

If oil and SPY run up, that fine too, as your XLE shares gets called away at $50, and you still enjoy the 12%+ return for about six months of risk-taking (25% annualized).

Not bad risk-reward from my perspective.

(Side note: I rather do this trade than Warren Buffetts' equity puts on SPY at $90, as SPY includes too many sectors that are riskier than XLE / energy sector alone)

May 27 07:42 PM

[Charles Pet...:]

The USO is completely broken, lagging the actual price of crude oil by over 40% since inception. Recommending this type of investment or believing that they work is nothing short of criminal.

May 31 06:18 PM