Watch the spreads: Oil prices tum­ble be­fore year-end

Kuwait Times - - BUSINESS -

LON­DON: Crude oil prices sold off heav­ily on Wed­nes­day and Thurs­day, with front-month Brent fu­tures fall­ing more than 7 per­cent to the low­est level more two and half months.

Prices slumped amid grow­ing con­cerns about con­tin­ued over­sup­ply in the mar­ket, the build-up of in­ven­to­ries and the pos­si­bil­ity of stor­age space run­ning on land and forc­ing more oil to be stored ex­pen­sively at sea. The Amer­i­can Petroleum In­sti­tute re­ported on Tues­day that crude oil stocks in the United States rose by an un­usu­ally large 6.3 mil­lion bar­rels last week.

The En­ergy In­for­ma­tion Ad­min­is­tra­tion con­firmed on Thurs­day a build of 4.2 mil­lion bar­rels with in­ven­to­ries now 109 mil­lion bar­rels above the prior-year level.

There was plenty of other bear­ish fun­da­men­tal news around, with OPEC pre­dict­ing the oil mar­ket would re­main over­sup­plied in 2016.

But prices have also been in­flu­enced by more tech­ni­cal fac­tors, among them the ex­piry of the De­cem­ber Brent fu­tures con­tract to­day which tends to re­duce liq­uid­ity and ex­ag­ger­ate price move­ments.

WATCH THE SPREADS The most in­ter­est­ing prices moves were not in spot prices but in the dif­fer­ences or spreads be­tween fu­tures con­tracts ex­pir­ing on dif­fer­ent dates (http://tm­snrt.rs/1N1eOd1).

The en­tire strip of fu­tures prices for the next six months has been weak­en­ing over the past four weeks as the mar­ket fo­cus swings back from strong oil de­mand to­wards con­tin­ued over­sup­ply.

Soft­ness in the spreads for both WTI and Brent fu­tures con­tracts has been es­pe­cially pro­nounced over the last 10 days. But much of the weak­ness has been con­cen­trated in the con­tracts near­est to ex­piry in De­cem­ber rather than fur­ther for­ward in 2016.

For both Brent and WTI, the spread be­tween con­tracts ex­pir­ing in De­cem­ber and Jan­uary weak­ened much more than the spread be­tween con­tracts ex­pir­ing in Jan­uary and Fe­bru­ary.

The main move in WTI occurred late last week, with Brent catching up on Thurs­day.

The sud­den weak­ness in the De­cem­ber Brent and WTI con­tracts likely has more to do with tech­ni­cal fac­tors than fun­da­men­tals. Front-month fu­tures con­tracts of­ten ex­hibit strange be­hav­iour in the run up to ex­piry as po­si­tions are rolled for­ward and liq­uid­ity shifts to the next-near­est con­tract.

The spread be­tween De­cem­ber and Jan­uary con­tracts is par­tic­u­larly un­usual be­cause it cov­ers the pe­riod over yearend. Many busi­nesses min­imise phys­i­cal in­ven­to­ries they own over the yearend for ac­count­ing pur­poses by agree­ing to sell them be­fore De­cem­ber 31 and buy them back in Jan­uary.

There is an ac­tive mar­ket for yearend sale and re­pur­chase trans­ac­tions and plenty of in­ter­me­di­aries in the mar­ket will ar­range them, with as­so­ci­ated need to jug­gle hedges and fu­tures po­si­tions. The sud­den shift in the De­cem­ber-Jan­uary spread for both WTI and Brent there­fore comes as no sur­prise and prob­a­bly has more to do with the shift­ing of fu­tures po­si­tions and hedges rather than fun­da­men­tal news. In turn, the sud­den drop in spot prices over the last couple of days prob­a­bly re­flects tech­ni­cal changes in the spreads at the front of the curve rather than a big shift in sup­ply and de­mand fun­da­men­tals. — Reuters

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