Investors dump crude oil and distillates as Mideast risk recedes

Investors dumped crude oil futures and options for the second week running as the economic outlook worsened and the risk of a wider conflict in the Middle East appeared contained. Hedge funds and other money managers sold the equivalent of 73 million barrels in the six most important petroleum futures and options contracts over the seven days ending on Oct. 31.

Fund managers have sold petroleum in five of the last six weeks reducing their position by a total of 274 million barrels since Sept. 19. The wave of sales has reversed much of the 398 million barrels purchased between the end of June and the middle of September.

Chartbook: Oil and gas positions

The combined position was cut to 406 million barrels (18th percentile for all weeks since 2013) on Oct. 31 down from 680 million (64th percentile) on Sept. 19.The ratio of bullish long positions to bearish shorts slumped to 2.79:1 (26th percentile) from 6.02:1 (81st percentile) as sentiment shifted from strongly bullish to fairly bearish.

On the consumption side, recent economic indicators have shown manufacturing activity weakened across North America, Europe and China in October after improving through the third quarter.

On the production side, the deployment of US aircraft carriers to the Middle East has dissuaded Iran and Hezbollah from openly joining the conflict between Israel and Hamas and reduced the risk of regional escalation.

WTI SQUEEZE ENDS

In the seven days ending on October 31, selling was led by crude (-78 million barrels), especially NYMEX and ICE WTI (-62 million barrels), with a smaller contribution from Brent (-16 million). In the premier NYMEX WTI contract, fund managers sold in every one of the last five weeks reducing their position by a total of 161 million barrels since the end of September.

The remaining position (153 million barrels) was the lowest for 16 weeks since July 11 (128 million barrels). The run up in front-month prices and move in the calendar spread to an extreme backwardation between the end of June and late September had all the characteristics of a squeeze on deliverable supplies.

Crude inventories around the NYMEX delivery point at Cushing in Oklahoma depleted to just 22 million barrels at the end of September from 43 million barrels at the end of June. Since then, however, inventories have been stable and both front-month prices and the calendar spread have come under persistent downward pressure.

With the squeeze completed, the economy worsening, and risk of escalation in the Middle East receding, much of the previous bullishness has dissipated and another wave of short selling emerged in WTI.

Funds increased short positions in NYMEX WTI in each of the last four weeks and had a total short position of 75 million barrels on October 31 up from just 20 million on October 3.

Fund managers have become very bearish about the outlook for WTI, with a net position of just 118 million barrels (7th percentile) and a long-short ratio of 2.01:1 (12th percentile).

DISTILLATES WEAKEN

Hedge funds have also become progressively more pessimistic about the outlook for the price of diesel and other distillate fuel oils in recent weeks. Middle distillates are the most closely correlated with the state of the business cycle and have reacted to the increase in interest rates and borrowing costs in the major economies.

Funds sold middle distillates in eight of the nine most recent weeks reducing their position by a total of 56 million barrels since late August. The net position and the long-short ratio had both been reduced to around the 40th percentile (mildly bearish) from the 80th percentile (strongly bullish).

But most of the sales have come in European gas oil (-49 million barrels) rather than US diesel (-6 million) reflecting the poor outlook for the European economy. Reflecting the diverging health of the two Atlantic economies, fund positions in European gas oil are now very bearish (around 20th percentile) while positions in US diesel are still decidedly bullish (around 80th percentile).

US NATURAL GAS

Funds purchased the equivalent of 533 billion cubic feet (bcf) of gas over the seven days ending on Oct. 31, according to position records filed with the US Commodity Futures Trading Commission.

As a result, the combined position increased to 943 bcf (53rd percentile for all weeks since 2010) and the highest for 75 weeks since May 2022. The ratio of bullish long to bearish short positions climbed to 1.52:1 (56th percentile) up from 0.97:1 (29th percentile) as recently as the end of August.

Funds became more bullish even as inventories remained above the ten-year seasonal average and showed no sign of falling. Working inventories in underground storage were 98 bcf (+3 per cent or +0.41 standard deviations) above the seasonal average on Oct. 27 up from a surplus of 60 bcf (+2 per cent or +0.23 standard deviations) on Oct. 6