Oil rout driven by China and glut
The plunge in crude oil markets last week to a six-month low was likely driven by worries about Chinese economic growth and persistently high inventories.
The plunge in crude oil markets last week to a six-month low was likely driven by worries about Chinese economic growth, persistently high inventories and fund positioning. US crude oil slumped by five per cent to a low of $45.29 a barrel on Thursday, the lowest since November, when the Organisation of Petroleum Exporting Countries agreed to curb production by 1.8 million barrels per day for six months from January 1.
However, Friday saw a 1.5 per cent bounce helped by assurances by Saudi Arabia that Russia is ready to join Opec in extending supply cuts to reduce a persistent glut.
“People often reverse-engineer an explanation. But, I think the velocity of the move last week stems from China and its liquidity tightening. That spooked the market across all commodities,” said Michael Tran, director of global energy strategy at RBC Capital Markets. “It’s a commodities story rather than oil-specific.”
Chinese manufacturing surveys last week triggered worries that the economic growth in the world’s second largest economy may have peaked in the first quarter and China’s central bank has moved to tighten credit, leading to a fall in stock prices for the fourth straight week.
Doubts that the Opec-led supply cut of the past few months are deep enough to draw down bloated storage levels around the world are also weighing on prices. US crude stockpiles fell less than expected last week as rising US production offset reduced supply from Opec.
As a result, oil traders may have finally given up on an early rebalancing of inventories in the crude market by Opec.
Funds a factor
One dominant group appeared to rush into the selling: managed futures firms, or Commodity Trading Advisors (CTAs), which manage about $340 billion in assets, according to BarclayHedge, a fund research group in Fairfield, Iowa.
These funds advise others on buying or selling futures, futures options and foreign-exchange forward contracts. They often look at macro-economic trends across asset classes and trade dozens of markets using models to detect the start and end of moves.
For such firms, multiple signs of
The velocity of the move last week stems from China and its liquidity tightening. That spooked the market across all commodities Michael Tran, director of global energy strategy at RBC Capital Markets
a trend change were clear last week: a nose-dive in Chinese iron ore futures, big losses in gold and copper prices, and persistently high oil inventories that spooked crude oil traders.
Those fears appeared to be heightened by a note from JP Morgan analysts on Thursday, citing increasing risk that Saudi Arabia would reverse its cuts and pump more crude.
Even though oil prices have weakened since mid-March, speculators have maintained long positions, putting them in danger of a reversal like Thursday’s sell-off.
“There are definitely some new shorts in the crude oil market. The systematic CTAs, the ones not trading fundamentals and purely technical, were definitely sellers,” Nick Gentile, managing partner of commodity trading advisor NickJen Capital in New York, said.
As prices continued to fall, liquidation of timespreads added to the move, according to a note from Goldman Sachs.
Hedge funds are also losing faith that Opec can accelerate the rebalancing of the oil market even if the group agrees to extend output cuts when it meets later this month.
The speed and direction of the selling last week was enough to cause the December 2017 crude contract price to fall below the December 2018 contract, an indication of increasing worries about the overhang of supply. Volumes spiked on Thursday, with more than 940,000 frontmonth US crude contracts changing hands, compared to the daily average of 535,000 contracts.
“The obvious thing is that the market was massively long. When it’s a crowded trade, things tend to do the opposite very quickly,” said Gentile.