In anticipation of this week, which led up to the finale of the high-level U.S.-China trade talks held in Beijing, all risk assets got a boost from a possible resolution as equities rallied 7% from the lows at the end of December. Oil rallied 20%, mining and tech stocks around 15% to 20%. It is as though Christmas Eve never happened as stocks and most assets are now back to where they were in the middle of December. Given that the year ended horrendously, traders may be excused for coming in short at the start of 2019. Hence the rally, on back of an optimistic trade talks outcome this week, was more a classic case of short covering as seen by the hedge fund most-shorted-stocks basket rallying aggressively this week. Oil was no exception!
It is astonishing how most who trade Oil spend most of their time going through OPEC headlines and Trump tweets, rather than focusing on inventories and demand/supply that actually do move the price. Saudi ministers made a pledge back in December to cut exports, restating that did not move the needle -- contrary to media commentary to justify the price move higher. The same reason why Oil prices fell back in November last year and rallied last few weeks is because of the "macro" trade. Whether we like to believe it or not, the correlation of all asset classes is close to 1, for now. It is all about global economic growth prospects and the dollar.
According to Nomura's quant strategy team "net short positions on WTI accumulated by CTA's (momentum trading funds) had been wiped out" and that "most of the bearish payers have also exited the crude oil futures market." That explains why Brent Oil rallied from $50/bbl. to $59/bbl. on Wednesday and then another 4% on the day U.S.-China trade talks presented a hint of positivity. The marginal sellers were now turning net long! Now that the Oil market is small long, to move it much higher than $50/bbl. WTI or $60/bbl. Brent, one would need new "fundamental" news.
We are in the heart of winter heating demand season for Oil. The northern hemisphere winter has gotten off to a warm start, meaning lower demand for heating Oil inventories. Starting in 2019, heating Oil inventories were a lot higher (more comfortable) than where we were coming in to the start of 2018. The data released yesterday according to the Department of Energy weekly data (DOE's) showed Crude drawing 1.68 million barrels vs. expectations of 2.7 million barrels (less bullish). More importantly, the product markets showed a bigger build than estimated with distillate building 10.61 million barrels! At a time when inventories should be drawing, we are building! #Ouch. Why is that? Week-on-week demand came in at an appalling 2.9 million barrels per day vs. 3.2 million barrels the week before. The slowdown of fourth-quarter 2018 is finally taking its toll.
Yes, we seem to be fixated on OPEC (Saudi Arabia and Russia) cutting production, but we need to take much lower demand into consideration as well. As long as WTI prices are above $45/bbl., most U.S. shale companies are benefitting under positive economics, i.e. pumping still makes sense! With U.S.-China buzz over without anything concrete, it seems the Oil prices will be capped here and perhaps trade down $45/bbl.
Until the global economic growth picture improves, it is a sell on rallies market. The fundamentals of the Oil market are getting "tighter" but are still not tight, for now.