If Crude Oil Speculators Are 'All In', What's Next?

| About: The United (USO)

Summary

Speculators are "all in," betting for higher prices.

Longs are near record highs and shorts have covered most shorts.

Producers are increasing short hedges.

What this implies to me is that the battle between longs and shorts favor the shorts as prices tick higher.

Crude futures prices gained $1.75/b (3.5%) in the week ending October 11th (to correspond to the data below) at $50.44. However, following the first U.S. crude oil stock build in five weeks, the nearby crude futures contract dipped $0.09 over the following three days.

OPEC has agreed to a production target of 32.5-33.0 million barrels per day, and it appears Saudi Arabia will largely manage the target, as producers such as Iran, Libya, and Nigeria are free to restore their production to prior highs. It is doubtful just how much they will be able to restore though, given the challenges in each country, and so the situation will remain fluid.

But Saudi Arabia is borrowing in the international bond market, which prefers stable incomes. And so it seems likely the Saudis will try to manage that.

It also does not want prices to rise too high to incentivize shale oil producers to ramp up and take a lot of market share. So, it is within this context that traders were rebalancing short and long positions.

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Commitments of Traders

Utilizing the Commodity Futures Trading Commission's (CFTC) Commitments of Traders (COT) reports for crude oil, I was able to dissect how traders were re-positioning in the week ending October 11th.

The four groups I follow - Hedgers (Producer/Merchant/Processor/User) Longs and Shorts, and Speculators (Money Managers) Longs and Shorts - are defined below:

Hedgers: A "producer/merchant/processor/user" is an entity that predominantly engages in the production, processing, packing or handling of a physical commodity and uses the futures markets to manage or hedge risks associated with those activities.

Speculators: A "money manager," for the purpose of this report, is a registered commodity trading advisor (CTA), a registered commodity pool operator (CPO) or an unregistered fund identified by CFTC. These traders are engaged in managing and conducting organized futures trading on behalf of clients.

The latest data include data for both options and futures combined for the New York Mercantile Exchange (NYMEX). All comments below pertain to each group as a whole, on balance, noting there are exceptions among individuals.

Findings

Speculators bought the equivalent of 61 million barrels in futures and options contracts last week, adding to the 66 million barrels in the prior week.

The largest buyers were spec longs, who bought over 33 million barrels worth of contracts. With 359 million barrels, spec longs are the highest all year and close to record length in May 2014.

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Spec shorts covered (bought) over 27 million barrels. Their ending net short position was 71,407 lots. This is their smallest short position since early June, when prices were peaking in that cycle. However, the previous low position had been about 18,000 contracts lower, implying that there still may be more short-covering to go before prices peak.

By contrast, short hedgers, primarily crude producers, increased (sold) the equivalent of almost 16 million barrels in hedges. As a result, their total hedge position increased to 608 million barrels, which is nearly their highest level since May 2011 when crude futures prices were $106/barrel.

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Baker Hughes reported a small (4) rise in the rig count, but active rigs are over 35% higher than at the bottom in late May. Recent data from the Energy Information Administration also showed that well completions have exceeded new wells drilled in the past several months.

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Hedge buyers increased length by just over 2 million barrels to 331 million barrels. This was their longest position in 2016.

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I netted the long and short positions of both these hedgers and speculators. Last week, there was a net purchase of 20 million barrels from these groups, which pushed prices higher.

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Conclusions

The shifting of positions favored higher prices as spec shorts covered and spec longs increased positions. But we are seeing increased producer hedge (short) interest. My belief is that their selling will dominate should crude prices move much higher into the $50s.

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.