With the crude oil price languishing at about $US55 a barrel – down from about $US100 a barrel in mid-2014 – investors are questioning whether it has reached the bottom of the current price cycle.

If that’s the case, traders shorting oil need to keep a close eye on price movements to ensure they don’t get caught out.

Ric Spooner, chief market analyst at CMC Markets, says shorting oil was one of last year’s better trades.

“US oil prices fell 59 per cent between June and January. Over this period oil suffered a strong, pretty much one-way downtrend. Since then the character of the market has changed. From late January oil entered a choppy, consolidation phase that’s ongoing,” Spooner says.

“While the demand/supply balance remains stacked against oil over the medium term, I would now prefer to wait for the possibility of a bounce to around $US60 before being tempted to short US oil,” he adds.

This is because in the absence of any major disruption to Middle Eastern supplies, world demand for oil is well-and-truly covered by supply capacity over the medium term and this is likely to see price rallies capped.

Spooner says: “Saudi Arabia is now clearly intent on maintaining market share and will leave supply cuts to other, higher-cost producers. Saudi’s market-share strategy appears to relate not only to its share of the oil market, but also to oil’s share of the overall energy market. Keeping oil’s price relatively low could slow the transition to higher-cost renewable energy sources providing more time for Saudi to diversify its economy.”

EXPECTATIONS

Despite the fact the US has continued to produce a lot more oil than it can use, the oil price has recovered from its low over the past month.

“It’s been very resilient around the top end of its trading range. This is because the market now has a clear expectation that the steep decline in US oil rigs over recent months is about to be reflected in lower production levels. This lower production will coincide with a seasonal increase in demand and should allow some inroads to be made into reducing the massive US oil stockpile,” Spooner says.

He argues the likelihood of US shale oil production being scaled back over coming months creates the risk of a pop in the US oil price.

“So while the medium-term fundamentals still look bearish, I’m prepared to wait for an opportunity closer to $US60 to short oil, even at the risk of missing out if prices start to fall away from current levels.”

Chris Weston, chief market strategist with CFD house IG Markets also thinks the market has experienced a bottoming in both Brent and WTI oil. But he says there are a number of factors in play and advises traders to keep things simple.

“Looking at price is always the best way to rationalise trader behaviour. Given the short-term trend, it looks as though we will see a move into the $US56 area, potentially $US60,” Weston says.

“It must be said that the fundamentals of the US oil market are hardly bullish, with petroleum inventories having increased 26 per cent for the year to currently stand at 482 million barrels – a record. Cushing is running at 80 per cent capacity, so this will hold the bulls back somewhat.”

LOW FOR SOME TIME

Cushing is an oil depot in Oklahoma in the US. It’s the price-settlement point for the New York Mercantile Exchange for West Texas Intermediate crude.

“Brent has been trading in a range of $US50 to $US63 for the year and until this breaks out I feel the market will continue to trade this range. I see a low possibility that OPEC will cut production levels at the June 5 meeting, given what we have seen from the US oil companies who have shed exploration, capex and jobs,” Weston says.

“I am also a long-term US dollar bull and a strong US dollar will cause traders to sell any real rallies in oil.”

Kara Ordway, senior marker analyst with CFD house City Index, agrees the oil price drop has been fuelled by fears of oversupply and subdued demand.

“Many analysts have talked about energy markets making quick recoveries, but prices are more likely to consolidate at these lower levels while the US dollar continues to appreciate,” she says.

Ordway notes global banks and analysts are still cutting forecasts for oil prices over the next three years, despite the already significant falls.

“Oil will be low for some time … and so while I don’t discourage intra day trading, buying into new lows to look for a rebound is very short term. I would not be looking for a push back up into a price above $70 anytime soon,” she says.

Nevertheless, there are pluses to depressed commodity prices – albeit more for US than Australian consumers.

“While many US consumers enjoy lower prices at the pumps, the higher US dollar has resulted in foreign consumers not receiving the same discounts when filling up. While prices for petrol here in Australia have come down, as a net importer of oil, and given the weaker Australian dollar, the benefits for us have not been as great,” Ordway says.

Extracted in full from Australian Financial Review.

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