How This Imaginary Line Is Pushing Oil Prices Up

Oil prices have swung harder this month than in years.

On Wednesday, you saw how – and why – some financial institutions manipulated the market to start these swings.

But to give you insight into why the markets played along with these manipulators, I asked Sean Levine to give you his view of what’s happening with oil – and where crude prices are going next. As Director of Research and Product Development at the Energy Capital Research Group Sean has an unmatched view of what oil markets are up to.

And as you’re about to see, there’s nothing “real” about what’s been happening to oil this month. Here is Sean's take:

This is the Most Volatile Oil Market since Early 2016

Earlier this month, the price of oil experienced its most dramatic swing since recovering from the early 2016 lows, and certainly its most dramatic selloff.

Between May 1 and May 5, U.S. benchmark WTI crude fell from $49.32 to $43.76/barrel – an 11.3% decline in just four days. Compared to the highs of $53.76 attained just a few weeks earlier, on April 12, the implosion was even more dramatic at $10 even or almost 19% over just three weeks.

But if you’d been reading the papers, you’d have had no idea this collapse was coming.

Sure, there was debate about whether OPEC and NOPEC crude production cuts were really working, and the worst of the declines were exacerbated by a pretty ugly weekly report on how much surplus oil and refined product was stockpiled in the U.S.

But a good portion of the collapse had already taken place by the time that latter news had even hit the presses.

The real reason why we suddenly fell to the lowest crude oil price in nearly six months is rather straightforward.

It relates directly to a theme I have repeatedly returned to while trying to interpret and forecast volatile oil market prices. But if you weren’t looking for it ahead of time, you would never have seen the move coming in a million years.

Wall Street Cares Little for Actual Oil Supply and Demand

Moving averages are trend lines which are calculated by averaging the prior-day closing prices for a security over a given period of time. Popular ones monitored by traders for longer-term activity include the 50-, 100-, and 200-day moving averages.

The fact that traders pay particular attention to these lines is of critical importance, because as I’ve pointed out on several occasions, Wall Street controls about 65% of the interest in NYMEX WTI options and futures.

And while their views are influenced by supply and demand, they often place just as great a level of importance on graphical doodlings like these moving averages, which have no relationship to the market fundamentals which ought to be shaping the price of oil.

In this instance, the 200-day moving average was the culprit. Looking at the WTI price chart (below), you’ll notice pink, green, and yellow lines which represent the 50-, 100-, and 200-day moving averages, respectively.

Since the crude market shifted back into bull mode back in early 2016, the price of the WTI front month has generally run well above the 200-day moving average line, only coming into contact with it on three separate occasions leading up to the recent collapse.

The first two instances in August and November of 2016 were spaced out by about three to four months apiece, and when they did break below the line, only managed to stay there for one to two days before bouncing back.

This should give you an idea of how powerful the line was in the minds of hedge fund managers (and their computerized trading programs).

Both breakdowns were followed up by solid rallies as buy signals kicked in on algorithms all across Manhattan.

The third test of the 200-day in March of 2017 was a little different however.

Today, Hedge Funds are Running Scared of Their Own Doodlings

While it once again took another four months for a test of the line, this time, WTI dallied near the threshold for over two weeks, at one point closing for seven straight trading sessions below what had turned into a technical resistance level.

Unlike the previous two tests, this one took place following the adoption of the cuts by OPEC & Friends, and the market was not yet seeing the results it wanted – at least not in the more widely reported OECD numbers.

Sentiment was starting to shift.

As such, when I and my colleagues at Energy Capital Research Group noticed a fairly quick return to the 200-day line after just one month since the last test, we began to become concerned that a breakdown could be imminent.

The line did manage to hold for about a week, but this trader resistance against any additional downward momentum was artificial, and when sentiment did not improve, ultimately led to a very messy and volatile breakdown.

Fortunately, this story has a happy ending, for yesterday we closed back above the 200-day moving average (by three cents).

Not surprisingly, we are once again off to the races, with U.S. crude cracking $50/barrel this morning for the first time in about three weeks.

With presumably positive news about OPEC’s production cut extensions ahead, and with bearish traders now diving out of the way of their imaginary line, the path is cleared once again for upside.

Disclosure: None.

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