Crude Oil Bottom may not be in Sight Until Oil Bulls Capitulate

Witawat (Ed) Wijaranakula, Ph.D.
Thu Nov 19, 2015

The spot WTI crude oil price dipped 0.31% to close at $41.85 per barrel on Thursday, after a Reuters report said that Iraq may increase oil output further in 2016 and sell some crude grades for as low as $30 per barrel. Currently, Iraq produces two grades of crude oil, Basra Heavy and Basra Light. According to the U.S. Energy Information Administration (EIA), Iraq's production output increased to 427,500 barrels per day (bpd) in June. 

To make matters worse for the price of crude, Iran's Oil Minister Bijan Namdar Zanganeh said on Tuesday, at a news conference in Tehran, that Iran won’t negotiate with OPEC or seek the group’s permission before boosting oil exports by a planned 500,000 bpd once sanctions are lifted. Iran produced 2.7 million bpd of oil in October, according to Bloomberg.

The EIA said on Wednesday that U.S. commercial crude oil inventories rose to 487.3 million barrels, up 252K barrels in the week ending November 13. The inventory increase came even as the U.S. imported less crude and refineries bought more crude oil to process into gasoline and other fuels. Analysts had expected an inventory build of 2.27 million barrels. 

Excluding the Strategic Petroleum Reserve (SPR) of about 695.1 million barrels, U.S. crude oil inventories remain near the peak level of 490.9 million barrels set in the week ending April 24, 2015. The U.S. consumes an average of 19.11 million bpd and produces about 9.14 million bpd. 

We expect the U.S. crude oil inventories to continue to build as the glut persists, and the demand for heating oil in the northeastern U.S. to diminish due to the warmer winter temperatures that the El Niño weather pattern brings. According to Reuters, shipping data shows that about 40 oil tankers with nearly 20 million barrels of Iraqi oil are due to sail to the United States in November, almost 40% above the amount booked to arrive in October. At some point in time, this crude oil will show up in U.S. inventories.

Additional pressure on the price of crude is also mounting as the U.S. Federal Reserve is determined to hike interest rates in December. The Fed released its minutes of the October 27-28 FOMC meeting on Wednesday which said, “Most participants anticipated that, based on their assessment of the current economic situation and their outlook for economic activity, the labor market, and inflation, these conditions could well be met by the time of the next meeting,”.

The federal funds futures, traded on the Chicago Mercantile Exchange and commonly used to estimate the market’s views on the likelihood of changes in U.S. monetary policy, indicate 32.2% odds for a quarter-point rate hike and 67.8% odds for a half-point rate hike at the Fed's December FOMC meeting, according to data from the CME Group as of November 18.

As of November 10, there are 277,775 long positions of light sweet crude oil futures, traded on the New York Mercantile Exchange (NYSE) by managed money or hedge funds, a decrease of 4,187 long positions from the previous week, according to the Commitment of Traders (COT) data released by the Commodity Futures Trading Commission (CFTC) each Friday. 

This is compared to about 139,178 short positions, an increase of 22,934 short positions from the previous week where light sweet crude oil contracts are traded in units of 1,000 barrels. Hedge funds have increased their net short positions by about 27,121 contracts, as they are betting that the crude oil price could go lower.

From our technical viewpoint, the crude oil price has been moving in a bearish lower low chart pattern since 2013, meaning every low (L) is lower than the previous low. In our opinion, the crude oil bottom may not be in sight until the lower low chart pattern is broken. A secondary bullish descending (DES) wedge chart pattern has also emerged, reflecting the large number of hedge fund long positions of light sweet crude oil futures on the NYSE. Technically, the descending wedge needs to be broken or else the downtrend will continue.

A near-term headline risk is the Governing Council of the European Central Bank (ECB) meeting in Frankfurt on December 3. The ECB could announce the expansion and extension its 1.1 trillion euro bond-buying program. The move could bump up the U.S. dollar against the euro and put even more selling pressure on crude prices. 

Other events that could influence the price of crude oil are the U.S. nonfarm payrolls report for November to be released by the Labor Department and the meeting of the OPEC ministers in Vienna, both on December 4. The OPEC meeting could be a non-event, as Russia’s Energy Minister Alexander Novak told TASS that Moscow has not yet received an invitation to the OPEC meeting but is ready to take part in it.

The long-term risk is that the crude oil price runs into a symmetrical triangle (SYM TRI) chart pattern between $50.55 and $37.75 per barrel. If the crude price can’t break out of the symmetrical triangle pattern, the price could bounce up and down between the January 2002 trendline support (T/S) and the May 2010 trendline resistance (T/R) until 2017, with a potential price target of between $42 and $46 per barrel.

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