Oil Traders Backpeddle on Accelerated Rebalancing

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Posted by Joseph Keefe

Brent spreads have weakened sharply in recent days as
traders become less convinced the oil market will rebalance early
in the second quarter.

The calendar spread from May to June has eased from 6 cents
contango per barrel on Feb. 21 to 30 cents contango on Feb. 27
(http://tmsnrt.rs/2lP8pbF).

Calendar spreads track the balance between crude supply,
consumption and stockpiles, with contango indicating a market in
balance or oversupply, while backwardation is associated with a
fall in stocks.

Most traders and forecasters expect the oil market to shift from
a supply surplus in 2014/15 to a deficit in 2017/18 with a
corresponding shift from contango to backwardation.

But the timing and profile of the transition is subject to
considerable uncertainty and has become one of the most popular
plays for hedge funds and other traders.

Spreads for the first few months of 2017 rallied consistently and
sharply since the middle of January before backing off in recent
days.

The rally and subsequent reversal has been concentrated in the
second quarter while spreads for the third and fourth quarter
have been much more stable (http://tmsnrt.rs/2lP0w5W).

The rally and reversal were most pronounced in Brent though a
similar pattern has been visible in spreads for WTI
(http://tmsnrt.rs/2mzz22Q).

Hedge funds accumulated a large net long position in WTI spreads
following the announcement of production cuts by OPEC and
non-OPEC countries in November and December 2016.

But the net long position has fallen from a recent peak of 160
million barrels in mid-January to 127 million barrels on Feb. 21.

The net position declined by 18 million barrels in the most
recent week alone and is back to levels last recorded in December
(http://tmsnrt.rs/2m2bbe9).

Hedge funds and other traders bet the market would rebalance even
faster than expected with a large draw down in stockpiles between
April and June.

But in recent days that confidence has evaporated and the market
is back to anticipating the draw down will start in earnest in
the third quarter.

Crude traders moved too early and aggressively in pricing in a
tighter market and a big draw down in stockpiles and now they
have backed off, at least for the time being.

By John Kemp

Feb 28, 2017

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