Black Gold No More
Fundamentals
Crude Oil futures are lower this morning, wiping out a portion of yesterday's gains. The EIA reported a drop of 2.8 million barrels for the week, which was larger than the expected drop of 1.5 million barrels. This was tempered by an increase in gasoline inventories of 1.4 million barrels, versus the average estimate of a 900,000 barrel increase. The inventory data and the fact that refinery utilization has increased show that refiners are cracking more Crude Oil than expected, but petroleum demand from industry and consumer demand for gasoline both have remained lackluster. Yesterday's move was the largest increase in prices this month and can be attributed to short-covering and bullish traders clinging to any positive data that comes out. Empire manufacturing and industrial production also came out better than expected, and the stock market rallied sharply, which offered outside market support for Oil prices.
This morning traders came back to reality. There is a good change that CIT financial will not get a government bailout, which can be seen as positive for the USD on two fronts. Market observers who believe the beleaguered lender needs the government money to provide financing for small and mid-size businesses may be disheartened by the government's rejection, citing a weak financial system. Traders who are more optimistic about the health of the financial system have praised the move, as the government will not be printing even more money to save yet another lender. Foreclosure filings reached a record 1.5 million for the first half of the year, indicating that housing market woes are far from over. The high unemployment rate suggests that the rate of foreclosures may not level off, but rather increase. This does not bode well for petroleum consumption, as households may be looking to trim costs any way possible. This includes not only trimming gasoline consumption, but also other goods derived from petroleum.
Crude Oil inventory levels have tightened, dropping for six straight weeks, but this has given traders little to be enthusiastic about. One of the driving forces behind the declining stock levels has been the restocking of gasoline, as inventory levels fell below seasonal norms. If driver demand remains lackluster, refineries may scaleback production, which can reverse the tide of lower stockpile levels. There is still the question of offshore storage that seems to get missed by most news sources. Recent inventory reports hint at sizable offshore storage, which could mean we are more oversupplied than previously thought. This has neither been confirmed nor discounted at this point, so traders are probably better suited not to act on the suggestion, but to keep an eye on the situation instead.
Trading Ideas
Some traders may wish to take advantage of the weak fundamental and technical outlook by considering entering into a bearish strategy. Given the extreme volatility of the Crude Oil market, traders may perhaps opt to enter into a bear put spread with predefined risk. Since August options expire today, traders will be forced to enter into the September contract. Some traders may wish to consider purchasing a Sep Crude 60 put (CLU960P) and sell the Sep Crude 58 put (CLU958P) for a debit of 0.75, or $750. The maximum profit on this spread would be 1.25, or $1,250, if the September futures contract closes below $58 on expiration.
Technicals
Turning to the chart, the August Crude Oil contract appears to be forming a bearish flag on the daily chart after making the measured move of the double top. This suggests a downward near-term bias. The 100-day moving average has acted as support in recent sessions. Traders may want to keep a close eye on how prices behave near the average. Closes below this level would be seen as bearish in and of itself, and the fact that the lower boundary of the flag rests on the the average makes it all that much more important. A violation of this level could send prices tumbling into the low 50's, or possibly the 40's. The 20-day SMA is currently intersecting the 50 day SMA, which can be seen as a bearish development. Despite the bearish chart bias, there are several things on the chart that may be encouraging for the bull camp. To this point, the market has held above support near 58.00. Also, the candles within the bear flag suggest the possibility of a near-term reversal, but the market does need to build on yesterday's rally to confirm this.
Rob Kurzatkowski, Senior Commodity Analyst
