In Part 1 of this analysis, I had concluded that the short specs (managed money) group had been most instrumental in driving crude oil prices higher since mid-February, reducing their positions to relatively low levels. But I also noted that hedge sellers (producers) had increased their positions to their highest levels in five years as prices approached $50 per barrel.
The Commodity Futures Trading Commission (CFTC) Commitment of Traders (COT) report is in for the week ending May 24th, and provides some insight into how each of the four groups I follow are thinking: Hedgers (Producer/Processor/User) Longs and Shorts, and Speculators (Managed Money) Longs and Shorts.
In a word, all four groups acted in fear. Each group reduced its long or short positions, thinking prices could go higher if short, or lower, if long. A sharp move in either direction could, therefore, trigger more fear on behalf of the group losing, and more confidence on behalf of the group gaining.
We do seem to be a tipping point at this particular time, and the price activity over this past week is not particularly impressive for the long side; i.e., overnight news of more disruption of oil in Nigeria could not push the price any higher today.
In total, the change in positions of these four groups combined for the week ending May 24th was a net 4.4 million barrels (4,447 NYMEX futures and options contracts). This small number makes sense because the nearby futures contract price rose by just 1% for that week.
The biggest - and most surprising - change was a decrease in hedge short positions, the oil producers. I have heard the discussions of oil executives in the boardroom for decades about hedging, and I could just imagine them saying, "It's going up, why are we hedged here?" And then, someone takes out the price chart from mid-February and shows a graphic of oil disruptions, such as the one below.
And off come some hedges. As a result of last week's trades, this group is less hedged now than it was in mid-February.
Hedge longs (processors and users such as refiners, airlines) retired 24 million barrels of their portfolios. Again fear sets in. Why not take the profits? What if this market goes down? This group has reduced its long exposure by 36.6 million barrels since mid-February, taking profits.
Managed money longs reduced their length by 8.1 million barrels. This group is pretty much where it was positioned in mid-February.
And finally, the ring leaders, spec shorts, reduced their shorts by 3 million barrels last week. This group is 130 million barrels less short than it was in mid-February. Below is the updated chart showing an 86% negative correlation to changes in crude oil prices.
The market often tops when the bullish news cannot get any better. I cannot predict what the news will bring next week, but a down day before a long weekend where disruptions have been supporting prices is not a good sign from the long perspective.
If prices do begin to decline, I would expect spec shorts to jump on it. With a delay, some oil producers will probably re-set hedge levels.
Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.
I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.