The Oil Traders' Bearish Turn Signals That Prices May Stay Low

Ask the world's largest oil traders where the market is headed as prices hover near a 15-month low, and you'll almost always get the same answer: the stage is set for a rally.

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However, a closer look at trading data reveals a very different story. In the last two weeks, speculators have reduced bullish positions in US crude to their lowest in more than a decade, while bearish bets have reached a four-year high. The options market exhibits similar pessimism in the so-called put skew, a measure of bearishness.

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The dissonance emphasizes a market tension that has been present for some time. The long-term outlook for prices is mostly bullish, as US output stagnates, Chinese demand is expected to rebound, and Russian output is expected to fall. However, the near-term headwinds are significant, and prices have fallen this month as speculation grows that banking system weakness could trigger a full-fledged recession.

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Traders "can still have a bullish thesis but recognize that surviving the next month is mission critical," said Rebecca Babin, a senior energy trader at CIBC Private Wealth. "Many investors are in survival mode here."

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The 14% decline in prices since the beginning of the month indicates the frantic exodus of investors who abandoned their futures positions. This accelerated the selloff by requiring Wall Street banks and other financial institutions to cover their positions in the options market.

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Top oil traders like Trafigura Group and Pierre Andurand continue to claim that a price recovery is imminent, but many don't take those positions. Instead, it appears like bearish speculators are in control.

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According to people familiar with the situation who declined to be identified discussing private information, Andurand's main Andurand Commodities Discretionary Enhanced Fund has fallen by about 40% this year. Andurand claimed in a tweet on March 23 that holding oil was "the least fashionable thing on the planet at the moment."

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Oil price optimists point out that some of the current market weakness is caused by the fact that French refinery strikes are keeping crude supplies abundant and Russian oil exports are persistently high. These factors may disappear in the coming weeks.

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Furthermore, although low oil prices are uncomfortable for speculators holding bullish bets, consumers stand to gain if prices remain stable. That might also relieve the pressure on inflation and make it easier for the Federal Reserve to rein in price hikes overall.

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Markets currently lack confidence in a rally later this year. The disparity between US futures for immediate delivery and those for delivery six months from now, one indicator of the health of the oil market, is shrinking as traders factor in lower increases in the future. Nevertheless, the distance between December 2023 and December 2024 has shrunk to almost its smallest this year.

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One trader in the options market invested $60 million in a single trade, wagering that the price of US crude would fall to $60 per barrel between July and October. Dealers claimed that the trade was one of the most expensive of the year.

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Michael Tran, managing director at RBC Capital Markets, stated that "fundamentals support higher pricing, and there remain plenty of bulls in the market." Yet positioning paralysis has resulted from the macro-induced heightened anxiety factor.

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