SUMMARY
Lowered demand projections for Crude Oil as per IEA and OPEC+, softer demand for Crude Oil in China despite partial loosening of restrictions as per EY, the G7-Russian Crude price cap which would lower demand for WTI Crude.
We are short-term bearish on WTI Crude Oil. However, it should be noted that there may be very limited downside in price as the Biden administration plans to replenish the Strategic Petroleum Reserves at prices between $67-$72.
As such, this case study argues that a short position in CME’s NYMEX WTI Crude Oil Futures (February 2023) could provide an interesting trading P&L profile at an entry price of $77.80/barrel with a target of $73.65/barrel with a reward-to-risk ratio of 0.86. A stop loss could be set at $82.61/barrel or the Pivot Point.
OIL PRICE HISTORY
After temporarily dipping at the start of the pandemic, WTI Crude Oil prices rallied through 2021. This was a result of demand bouncing back rapidly as economies re-opened post-pandemic.
This led to dwindling oil reserves in the US and the wider OECD countries. Shortage was further exacerbated by OPEC+ choosing to boost supply gradually.
Finally, prices were pushed even higher given the Russian-Ukraine conflict which threatened to limit the available supply of Crude Oil, of which Russia is the third largest producer according to the IEA.
However, following this peak, prices started to cool off as high inflation dampened demand for oil. This led WTI to erase most of its 2022 gains. WTI prices have retracted back to the start of 2022 twice since then, in September 2022 and in November 2022 again. However, price quickly rebounded off this level as OPEC+ announced supply cuts totaling 2 million barrels per day (real cuts were estimated at 1 million barrels per day as mentioned by Prince Abdulaziz, Saudi Minister of Energy). OPEC+ maintained its lowered output targets at a meeting on the 4th of December 2022.
OPEC also lowered its oil demand forecast for 2022 and 2023 by 100k barrels per day in November.
WTI price has declined 43% from its peak in March.
CHINA
China is experiencing a sharp resurgence in COVID-19 cases this year. Combined with the government’s zero-COVID policy, this led to large scale and strict COVID curbs. This further impacted the demand for oil, of which China is the 2nd largest consumer.
However, at the end of last month, Beijing notably changed its stance and has started to ease restrictions somewhat in parts of the country. Expectations are for China to open in entirety in Spring 2023.
According to EY, demand for Crude Oil in China is expected to be 1.2M barrels per day lower in Q4 2022. This further provides a short-term bearish outlook for crude oil.
STRATEGIC PETROLEUM RESERVE
To better manage spike in oil demand following the pandemic, Biden administration has been drawing large amounts of crude oil from its Strategic Petroleum Reserves. They drew nearly 200 million barrels from the Strategic Petroleum Reserves in 2022. In a mid-term election year, the administration was forced to resort to this to tame sky-high gasoline prices at pumps.
The Biden administration’s move has been seemingly successful in managing the price of gasoline which has declined from $5 to $3.5. Unsurprisingly, this has also drained a large portion of the US strategic reserves, taking it down to 389.1 million barrels, its lowest level since 1984.
The Biden administration has stated intentions to replenish the Strategic Petroleum Reserves when prices are between $67-$72 per barrel. This provides a potential floor on the price of oil if the plan is followed through, limiting potential downside in price.
Starting end of November, the administration followed its promise to wind down the use of the Strategic Petroleum Reserves. They drew just 1.4 million barrels in the week, far lower than the average of 6 million barrels/week over the past two months. However, this led to crude inventories in the country to plummet sharply by 12.79 million barrels. Still, this poses a potential challenge for the administration as it can no longer supplement crude supply in the country using Strategic Petroleum Reserves leading to higher demand in the open market.
US CRUDE INVENTORIES
Crude oil inventories in the US have seen large declines over the past three weeks. Contrasting this with Gasoline and Distillate stockpiles, which have instead increased. This is a result of high crack spread, which represents refining profit margins. As a result, US refineries are running at 93% of capacity highlighting that although crude oil stocks have been declining, it is primarily due to windfall margins available to refiners instead of high demand for crude oil.
G7-RUSSIA PRICE CAP
The EU has imposed an embargo on imports of Russian Crude Oil by sea using G7 and EU tankers.
G7, Australia, and 27 EU countries imposed a price cap on Russian crude oil transported by ship. The cap is aimed at reducing the margins that Russia makes on crude oil sales which it is alleged to fund its military actions in Ukraine. The price cap provides third countries the ability to acquire Russian Crude Oil at or below the price cap.
The price cap was set at $60 per barrel, while Russian Crude Oil closed at $67 per barrel on Friday. The level will be reviewed every two months, starting in mid-January, to make sure it stays at least 5% below the average price for Russian crude as determined by the IEA. Each change in the cap will be unanimously agreed by all 27 countries of the EU and then by the G7.
The price cap makes it challenging for Russia to sell its Crude Oil at a higher price as most shipping companies are based in the G7. This could provide a source of cheaper crude for countries that still trade with Russia, thereby lowering the demand for the more expensive WTI Crude oil.
Notably, Russia stated that it would not accept the price cap and would not sell its oil subject to the price cap, even if it is forced to curtail production. Additionally, Russia is already selling its Crude Oil at discounted rates to China and India relative to WTI or Brent.
TECHNICAL SIGNALS AND PEEK INTO COT REPORT
CME’s NYMEX WTI Crude Oil Futures (February 2023) closed at $77.37, below the Pivot Point $82.61 as on Tuesday. R1 from the pivot indicator was at $91.62 while S1 was at $71.48. CME’s NYMEX WTI Crude Oil futures hit a low of $73.6 on November 28 before rebounding.
Stochastic indicator was at neutral as on Monday while RSI recently intersected its declining SMA which could point to a potential reversal in the downtrend.
100-day moving average is currently declining and stands at $87.4757, in case the short-term moving average (10 days) intersects this, it could point to a potential breakout. 10-day MA is currently at $78.77. For now, the 100-day moving average acts as resistance.
According to the CME Commitment of Traders tool, we observe that Users, Managed Money, and Swap Dealer short positions declined between November 22 and November 29. Other reportable and non-reportable short positions went up. Long positions also declined by a similar margin while spread positions increased 3.3%.
ATM Implied Volatility from WTI Crude Oil options on CME was at 48.25% on Friday, down from ~53% in the prior week. This provides a daily expected move of 3.04%. As such the low on 28/November is within 1x standard deviation of the pivot support ($73.65) and 2x standard deviations of the pivot support is at $75.83.
TRADE SETUP
CME NYMEX Micro WTI Crude Futures provide exposure to 100 Barrels of WTI Crude oil with a maintenance margin of $750. This provides a cost-effective way to get exposure to movements in Crude’s price.
Short Position on CME NYMEX Micro WTI Crude Futures – February 2023 Contract
Entry: $77.80/barrel
Take Profit Target 1: $75.83/barrel
Take Profit Target 2: $73.65/barrel
Stop Loss: $82.61/barrel
Establishing a short position CME NYMEX Micro WTI Crude Futures (February) with an entry price at $77.80/barrel with a potential take profit target at $75.83/barrel by February could provide exposure to a short-term correction in the price of WTI crude yielding 26.27% returns or $197. A stop loss at the Pivot Point $82.61/barrel would protect against an unexpected rally resulting in loss of $481 or -64.13% providing a reward to risk ratio of 0.41. Alternatively, holding the position until 1x standard deviation of IV of ATM option above the pivot point would lead to 55.33% returns or $415 resulting in a reward-risk ratio of 0.86.
CME’s full-size NYMEX WTI futures provide exposure to 1,000 barrels of WTI crude with a maintenance margin of $7,300 at the time of writing and provide improved liquidity in case of larger positions.
MARKET DATA
CME Real-time Market Data help identify trading set-ups and express market views better. If you have futures in your trading portfolio, you can check out on CME Group data plans available that suit your trading needs www.tradingview.com/gopro/
DISCLAIMER
Trade ideas cited above are for illustration only, as an integral part of a case study to demonstrate the fundamental concepts in risk management under the market scenarios being discussed. They shall not be construed as investment recommendations or advice. Nor are they used to promote any specific products, or services.
This material has been published for general education and circulation only. It does not offer or solicit to buy or sell and does not address specific investment or risk management objectives, financial situation, or particular needs of any person.
Advice should be sought from a financial advisor regarding the suitability of any investment or risk management product before investing or adopting any investment or hedging strategies. Past performance is not indicative of the future performance.
All examples used in this workshop are hypothetical and are used for explanation purposes only. Contents in this material is not investment advice and/or may or may not be the results of actual market experience.
Mint Finance does not endorse or shall not be liable for the content of information provided by third parties. Use of and/or reliance on such information is entirely at the reader’s own risk.
These materials are not intended for distribution to, or for use by or to be acted on by any person or entity located in any jurisdiction where such distribution, use or action would be contrary to applicable laws or regulations or would subject Mint Finance to any registration or licensing requirement.
Lowered demand projections for Crude Oil as per IEA and OPEC+, softer demand for Crude Oil in China despite partial loosening of restrictions as per EY, the G7-Russian Crude price cap which would lower demand for WTI Crude.
We are short-term bearish on WTI Crude Oil. However, it should be noted that there may be very limited downside in price as the Biden administration plans to replenish the Strategic Petroleum Reserves at prices between $67-$72.
As such, this case study argues that a short position in CME’s NYMEX WTI Crude Oil Futures (February 2023) could provide an interesting trading P&L profile at an entry price of $77.80/barrel with a target of $73.65/barrel with a reward-to-risk ratio of 0.86. A stop loss could be set at $82.61/barrel or the Pivot Point.
OIL PRICE HISTORY
After temporarily dipping at the start of the pandemic, WTI Crude Oil prices rallied through 2021. This was a result of demand bouncing back rapidly as economies re-opened post-pandemic.
This led to dwindling oil reserves in the US and the wider OECD countries. Shortage was further exacerbated by OPEC+ choosing to boost supply gradually.
Finally, prices were pushed even higher given the Russian-Ukraine conflict which threatened to limit the available supply of Crude Oil, of which Russia is the third largest producer according to the IEA.
However, following this peak, prices started to cool off as high inflation dampened demand for oil. This led WTI to erase most of its 2022 gains. WTI prices have retracted back to the start of 2022 twice since then, in September 2022 and in November 2022 again. However, price quickly rebounded off this level as OPEC+ announced supply cuts totaling 2 million barrels per day (real cuts were estimated at 1 million barrels per day as mentioned by Prince Abdulaziz, Saudi Minister of Energy). OPEC+ maintained its lowered output targets at a meeting on the 4th of December 2022.
OPEC also lowered its oil demand forecast for 2022 and 2023 by 100k barrels per day in November.
WTI price has declined 43% from its peak in March.
CHINA
China is experiencing a sharp resurgence in COVID-19 cases this year. Combined with the government’s zero-COVID policy, this led to large scale and strict COVID curbs. This further impacted the demand for oil, of which China is the 2nd largest consumer.
However, at the end of last month, Beijing notably changed its stance and has started to ease restrictions somewhat in parts of the country. Expectations are for China to open in entirety in Spring 2023.
According to EY, demand for Crude Oil in China is expected to be 1.2M barrels per day lower in Q4 2022. This further provides a short-term bearish outlook for crude oil.
STRATEGIC PETROLEUM RESERVE
To better manage spike in oil demand following the pandemic, Biden administration has been drawing large amounts of crude oil from its Strategic Petroleum Reserves. They drew nearly 200 million barrels from the Strategic Petroleum Reserves in 2022. In a mid-term election year, the administration was forced to resort to this to tame sky-high gasoline prices at pumps.
The Biden administration’s move has been seemingly successful in managing the price of gasoline which has declined from $5 to $3.5. Unsurprisingly, this has also drained a large portion of the US strategic reserves, taking it down to 389.1 million barrels, its lowest level since 1984.
The Biden administration has stated intentions to replenish the Strategic Petroleum Reserves when prices are between $67-$72 per barrel. This provides a potential floor on the price of oil if the plan is followed through, limiting potential downside in price.
Starting end of November, the administration followed its promise to wind down the use of the Strategic Petroleum Reserves. They drew just 1.4 million barrels in the week, far lower than the average of 6 million barrels/week over the past two months. However, this led to crude inventories in the country to plummet sharply by 12.79 million barrels. Still, this poses a potential challenge for the administration as it can no longer supplement crude supply in the country using Strategic Petroleum Reserves leading to higher demand in the open market.
US CRUDE INVENTORIES
Crude oil inventories in the US have seen large declines over the past three weeks. Contrasting this with Gasoline and Distillate stockpiles, which have instead increased. This is a result of high crack spread, which represents refining profit margins. As a result, US refineries are running at 93% of capacity highlighting that although crude oil stocks have been declining, it is primarily due to windfall margins available to refiners instead of high demand for crude oil.
G7-RUSSIA PRICE CAP
The EU has imposed an embargo on imports of Russian Crude Oil by sea using G7 and EU tankers.
G7, Australia, and 27 EU countries imposed a price cap on Russian crude oil transported by ship. The cap is aimed at reducing the margins that Russia makes on crude oil sales which it is alleged to fund its military actions in Ukraine. The price cap provides third countries the ability to acquire Russian Crude Oil at or below the price cap.
The price cap was set at $60 per barrel, while Russian Crude Oil closed at $67 per barrel on Friday. The level will be reviewed every two months, starting in mid-January, to make sure it stays at least 5% below the average price for Russian crude as determined by the IEA. Each change in the cap will be unanimously agreed by all 27 countries of the EU and then by the G7.
The price cap makes it challenging for Russia to sell its Crude Oil at a higher price as most shipping companies are based in the G7. This could provide a source of cheaper crude for countries that still trade with Russia, thereby lowering the demand for the more expensive WTI Crude oil.
Notably, Russia stated that it would not accept the price cap and would not sell its oil subject to the price cap, even if it is forced to curtail production. Additionally, Russia is already selling its Crude Oil at discounted rates to China and India relative to WTI or Brent.
TECHNICAL SIGNALS AND PEEK INTO COT REPORT
CME’s NYMEX WTI Crude Oil Futures (February 2023) closed at $77.37, below the Pivot Point $82.61 as on Tuesday. R1 from the pivot indicator was at $91.62 while S1 was at $71.48. CME’s NYMEX WTI Crude Oil futures hit a low of $73.6 on November 28 before rebounding.
Stochastic indicator was at neutral as on Monday while RSI recently intersected its declining SMA which could point to a potential reversal in the downtrend.
100-day moving average is currently declining and stands at $87.4757, in case the short-term moving average (10 days) intersects this, it could point to a potential breakout. 10-day MA is currently at $78.77. For now, the 100-day moving average acts as resistance.
According to the CME Commitment of Traders tool, we observe that Users, Managed Money, and Swap Dealer short positions declined between November 22 and November 29. Other reportable and non-reportable short positions went up. Long positions also declined by a similar margin while spread positions increased 3.3%.
ATM Implied Volatility from WTI Crude Oil options on CME was at 48.25% on Friday, down from ~53% in the prior week. This provides a daily expected move of 3.04%. As such the low on 28/November is within 1x standard deviation of the pivot support ($73.65) and 2x standard deviations of the pivot support is at $75.83.
TRADE SETUP
CME NYMEX Micro WTI Crude Futures provide exposure to 100 Barrels of WTI Crude oil with a maintenance margin of $750. This provides a cost-effective way to get exposure to movements in Crude’s price.
Short Position on CME NYMEX Micro WTI Crude Futures – February 2023 Contract
Entry: $77.80/barrel
Take Profit Target 1: $75.83/barrel
Take Profit Target 2: $73.65/barrel
Stop Loss: $82.61/barrel
Establishing a short position CME NYMEX Micro WTI Crude Futures (February) with an entry price at $77.80/barrel with a potential take profit target at $75.83/barrel by February could provide exposure to a short-term correction in the price of WTI crude yielding 26.27% returns or $197. A stop loss at the Pivot Point $82.61/barrel would protect against an unexpected rally resulting in loss of $481 or -64.13% providing a reward to risk ratio of 0.41. Alternatively, holding the position until 1x standard deviation of IV of ATM option above the pivot point would lead to 55.33% returns or $415 resulting in a reward-risk ratio of 0.86.
CME’s full-size NYMEX WTI futures provide exposure to 1,000 barrels of WTI crude with a maintenance margin of $7,300 at the time of writing and provide improved liquidity in case of larger positions.
MARKET DATA
CME Real-time Market Data help identify trading set-ups and express market views better. If you have futures in your trading portfolio, you can check out on CME Group data plans available that suit your trading needs www.tradingview.com/gopro/
DISCLAIMER
Trade ideas cited above are for illustration only, as an integral part of a case study to demonstrate the fundamental concepts in risk management under the market scenarios being discussed. They shall not be construed as investment recommendations or advice. Nor are they used to promote any specific products, or services.
This material has been published for general education and circulation only. It does not offer or solicit to buy or sell and does not address specific investment or risk management objectives, financial situation, or particular needs of any person.
Advice should be sought from a financial advisor regarding the suitability of any investment or risk management product before investing or adopting any investment or hedging strategies. Past performance is not indicative of the future performance.
All examples used in this workshop are hypothetical and are used for explanation purposes only. Contents in this material is not investment advice and/or may or may not be the results of actual market experience.
Mint Finance does not endorse or shall not be liable for the content of information provided by third parties. Use of and/or reliance on such information is entirely at the reader’s own risk.
These materials are not intended for distribution to, or for use by or to be acted on by any person or entity located in any jurisdiction where such distribution, use or action would be contrary to applicable laws or regulations or would subject Mint Finance to any registration or licensing requirement.
Trade closed: target reached:
On December 6th, we published a case study looking at a potential short position on Micro WTI Crude Futures with an entry of $77.80/barrel. Over the next two days, price retraced nearly 7% hitting our take profit target of $73.65/barrel. This trade worked out successfully yielding profit of $415. In our case study we had highlighted that there could be strong support in the price range of $67-$72. As such, our trade was expected to be very short term.
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