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This Is When We Are Going To Go Long Oil

Jun. 12, 2020 3:43 PM ETUSL, USO, UCO, SCO, BNO, DBO, OIL, OILK, OILX108 Comments


  • In the near term, we could see oil prices pullback further as global refining margins remain under pressure.
  • Timeline of when to go long oil appears to be late June to mid-July.
  • We will look to buy USL when it gets closer to $12.
  • Fundamental reason for our bullish stance has to do with the lack of US oil production recovery.
  • This idea was discussed in more depth with members of my private investing community, HFI Research. Get started today »

Welcome to the "when" edition of Oil Markets Daily

Our oil trading portfolio has remained dormant since we attempted to short XOP over a month ago. We still have over $50k ready to allocate on a higher oil price bet, but the timing has not been favorable.

In our view, we believe the oil market rally will be led by a crude deficit, which means that the oil futures curve will shift into backwardation soon. The back end of the curve will underperform the front end in the coming months as demand recovers while the market keeps the futures compressed to prevent shale from hedging.

But to eliminate the risk of timing, we will want to be long the entire futures curve or 12 months. Why?

Because the market is going to artificially compress the curve down and in addition, desperate shale producers will sell even at $40ish WTI practically guaranteeing no supply growth in 2021. This will set-up very nicely for fundamentals, while we get to play the upside thanks to stupid shale hedgers.

When and what to buy?

Buy - USL

Price level we want to buy it at - $12.

Timing - Mid to late June depending on the size of pullback.

There's about a 15% downside from the current price.

Recovery time frame - mid-July.

Target - $18-19 for a gain of ~54%.

Fundamental Reasons - No US Oil Production Recovery Seen Until H2 2021

EIA's latest STEO shows no recovery in US oil production until H2 2021. Our model has a decline steeper than EIA's and a faster recovery than the STEO.

Source: EIA, HFI Research

EIA has US oil production hitting bottom at ~10.6 mb/d, while our assumption shows that May US oil production was already around ~10 mb/d. We do have similar trajectories for the summer months

Over the weekend, we published our global oil supply and demand outlook. We see a major deficit taking shape for 2021 and 2022 in the oil market. Our oil price projection along with our supply and demand model suggests very good days ahead for the energy industry. For those interested, we are now offering a 2-week free trial for you to see for yourself. See here for more info.

This article was written by

HFIR profile picture
HFI Research is focused on investment ideas within the energy sector. The goal is to find contrarian opportunities in the oil and natural gas markets. Members of the investing group Learn more.

Analyst’s 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.

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Comments (105)

giovanni1234 profile picture
Thanks a lot for your article. I am long with a portfolio of 10 US and Canadian low-cost E&P companies - and think about hedging it for the weeks to come (USL moving towards $12). Up to now I primarily hedge selling Russell 2000 futures. So sort of a "texas hedge". What could I do instead (apart from selling the whole portfolio)? Thanks a lot in advance for your kind advice!
Brian Cellars profile picture
Thanks for the article. I seriously doubt you'll get a chance to buy USL at $12 and wouldn't be surprised to see oil continue to push up now after this brief pullback. I'm also amazed you weren't long since the end of April. I seem to recall you being bullish oil with the dropping production. Taking profits last week when oil hit $40 was a pretty easy bet and long off the opening today as it pushed up along with the markets made sense as well.
@Brian Cellars , have switched to oil from NG like @beezwaxxxx has?
Brian Cellars profile picture
I've been long oil since the end of April, trading a portion of the position and holding all the way. I'm back all in as of yesterday. NG has been asleep so haven't been paying it much attention, but did go long UGAZ today at 9.80. Stop sell in at 9.85 to lock in some gain and avoid getting whipsawed out.
It sounds like a plan @Brian Cellars .
Sir V-i-val profile picture
@HFIR Not sure why my numbers differ so much with your estimates.....I have US oil production in May 9.8 million barrels and a shut in of 1.65 million barrels ...hence maximum US oil production in July is 9.8-600...plus 1.6....10.8 million barrels a day.....an average frac spread of 120 for the rest of the year....I believe that we decline with an average of 240.000 barrels a month ....hence 9.6 million barrels a day at best case by January 2021...
Keith King profile picture
We may see a sustained desire to work from home or/ and a second wave of COVID 19 infections that could play havoc with demand. There is also the excess inventories to work off.
That's why these are prognostications you can go with or choose not to go with. Myself I'm going to kick back and drink a Coronabeer before stocks open tomorrow, Monday. The SP500 is already down 56 points Sunday afternoon. WTI crude oil is down $0.55 at $35.71. This market is throwing a hissy fit until McConnell gets off his duff and passes Pelosi's new $3 trillion stimulus bill. @Keith King
1Horse profile picture
We may find that a lot of "work" is absolutely and totally non-essential , ie. no one is going to notice if such "work" is done or not.
And of the rest, The work that is actually useful, maybe its only needed every now and then - not 9-5 for 5 days a week.
And everything else - like running the gossip-channels on the internet - completelyt online - no need for office space, commuting, elevators etc.
The work from home could be the next new things in normal times @DogFacePonySoldier .
PT Larry profile picture
Why USL? What about USO and/or DBO?

Is one of these better than the others? Could you say why.
bluenova profile picture
Curious as to this as well, @PT Larry

Could it be that USL spreads their exposure over a longer period than USO?
PT Larry profile picture
@bluenova Yes, very likely. But DBO does the same too, I think.
PT Larry profile picture
@bluenova Found this of interest.

willpetty profile picture
Thank you Kimbillro.

I don't fully understand the causality behind the article's text and worry a little about the log scale but the strategy does seem plausible. If 12 emerges in July, then perhaps 17-18 some time before xmas is possible. There will be more flights, people will be turning their heating on but there will be less office fuel use.

just over 40 WTI could be an upper bound for this year though.
That will be interesting @willpetty ...$40 WTI.
willpetty profile picture
When you say your model, is it AI or econometric or some hybrid. Just curious - all quite plausible though!
HFIR, when WTI was around $50, wasn't WCS trading around $35? Now instead of $15 discount, it's just a few bucks difference? Does both CVE and BTE get WCS from their Canada crude?
HFIR profile picture
8 difference now

CVE and BTE both get WCS in CAD
River18 profile picture
good deal
HFIR, why is it that oilprice.com shows price difference of about $3-4 while cmegroup shows about $10 difference?
great piece
@PT Larry @katmandu100 @shaner1 @kimbillro

I see everyone is still ignoring the elephant. President Trump is back to mentioning MOAIP in every interview. On Thursday or Friday, I saw him tell the Governor of New Jersey to start rebuilding some bridge, and to do it NOW!

I think President Trump wants the economy back in screaming higher mode by November. Just IMHO.

Long some oil companies and some mining companies.
PT Larry profile picture
@Westexr Am long MLM and VMC to catch the infrastructure crowd. In my view, it will happen before the November elections.

Trump changes his mind from day to day, hard to know with him.
We'll see what happens @katmandu100 .
PT Larry profile picture
Thanks for the article.
Good data and commentary,thanks.
Yes, I agree.
"From what we are hearing on the street, US and Canadian banks are going to be pulling out of the reserved based lending model entirely."

If this happens shale goes to the majors and the process that has happened over and over in oil industry will be complete. Oil prices will rise because the majors are much better at semi collusion with OPEC than cowboys.
That makes sense.
PT Larry profile picture
@iacmw This consolidation is much needed. EOG calls it discipline.
This is a to unpack: "The back end of the curve will underperform the front end in the coming months as demand recovers while the market keeps the futures compressed to prevent shale from hedging."

Can someone explain how keeping price low in later months would keep shale producers from hedging?
When the commodity goes into backwardation the roll is positive and the hedges which are short positions or puts lose value on the positive roll. @ashka12n
Shale completion/hedging depends mainly on what the ~12m price of oil is, and to a lesser extent the shape of the curve itself.

The ideal curve, from OPEC point of view, is a backward curve. Backward curve accomplishes two things: it allows you to get paid more than someone who hedges, so you capture more value from your resource; and it drains stocks.

Ideal situation is for OPEC to keep curve a little bit backward with 12m price around $40 but rising towards $50 as they add back spare capacity. OPEC wants there to be excess inventory in storage as long as they are cutting production, otherwise return of shale is possible. So, add back supply but not enough to keep market drastically under supplied and shift the curve dramatically.
Backwardation is good for bullish oil ETFs.
This time is different...will it finally come true? All signals thus far are pointing to a changed paradigm in the offing. I just wonder if somehow the shortages are too severe to take prices far too high, there by chocking world economies. That is a threat beyond $70 bbl price point.
This fragile economy can't support too high of oil prices.
China cannot afford oil too much over $70 at this point in time. They simply do not have the USD or the ability to get them to pay for dramatically more expensive oil.
1Horse profile picture
e&p earnings are likely to be shockingly bad for Q2. lets see how the market reacts to that.
shaner1 profile picture
Have to be pretty stupid to be shocked by poor earnings in a quarter that had -$40 oil.
1Horse profile picture
yes exactly. pretty stupid. See the Hertz Initial Bankruptcy Offering if in any doubt.
What about some oil company stocks? I would stay from the risky small shale producers, but companies RDS.B and MRO are very cheap now (despite no dividend currently).
vonmir profile picture
Curious how the demand curves look and are expected to play out.
When storage capacity is at overflow levels pricing power will wash away, again.
Industry is to productive for others.
@vonmir tell that to OPEC+ who think that they can still manipulate the market!
@HFIR what's your price target for BTE?
HFIR profile picture
1.45 Canadian but consolidation first after that will reassess.

BTE price target $1.45 even if crude WTI $65++?
HFIR profile picture
No just technical target.
SilentRage profile picture
$12 is approximately a 14% drop from USL's current price of about $14. Does that translate to front month/spot WTI CL futures @ $31? Just want to know when to load the boat on the next dip.

Robinhood traders also want to know what USO price equivalent that is...and also if they should buy some more CHK and HTZ before they both file for bankruptcy.
Let them study.
@SilentRage Yeah ive been trading USL options for the past month and have made a killing 12 @ 32
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