WTI Crude Oil Prices Surged after Fed's Bullard Said Plunge in Crude Prices has Implications for Monetary Policy

Witawat (Ed) Wijaranakula, Ph.D.
Thu Jan 14, 2016

The spot WTI crude oil prices surged 3.96% to an intraday high of $31.77 per barrel on Thursday, after St. Louis Fed President James Bullard said in his prepared remarks to the Economic Club of Memphis, that the “very substantial” drop in oil prices has contributed to low inflation and further declines may delay the return of inflation to target levels. Bloomberg reported that according to Bullard, a return to 2% wouldn’t occur until mid-2017 under a scenario in which oil prices fall through June.

Concerns over some U.S. Federal Reserve officials talking about aggressive rate hikes, two days of trading halts to China's stock markets within a week, and the yuan devaluation by the People’s Bank of China (PBoC), sent the spot WTI crude oil price crashing 11.3% last week. According to Reuters, Richmond Federal Reserve President Jeffrey Lacker said in a speech last Thursday that the Federal Reserve may need to raise interest rates more than four times this year if oil prices stabilize, the dollar stops appreciating and inflation surges toward the U.S. central bank's goal of 2%. 

The crude oil price tumbled 7.0% on Monday and Tuesday following the sell-off on the Shanghai composite index, which was down 5.13% during the same period. The People’s Bank of China (PBoC) had repeatedly intervened in the offshore yuan market in Hong Kong on Tuesday, after efforts by bank officials to talk up the currency on Monday, according to Bloomberg. 

Adding to the volatility was the contract rollover, as the crude oil futures February 2016 (CLG6) contract will expire on January 20. Traders swap a matured contract price with a new one before the old contract expires and the average rollover date from CLG6 to March 2016 contracts (CLH6) is January 17.

The WTI crude oil price shrugged off the report from the U.S. Energy Information Administration (EIA) on Wednesday showing that U.S. commercial crude oil inventories rose to 482.6 million barrels, up 234,000 barrels in the week ending January 8, compared to expectations of a Reuters poll of analysts for an inventory increase of 2.5 million barrels. 

The EIA also said that total motor gasoline and distillate fuel inventories increased last week by 8.4 and 6.1 million barrels, respectively, compared to analysts’ expectations of a 2.7 million barrel gain in gasoline and 2.0 million barrel increase in distillate fuel inventory. It looks like a repeat of last week’s EIA report where oil companies apparently lowered their taxes, at the end of 2015, by converting their idle crude inventories to motor gasoline and distillate fuel.

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. On Tuesday, the American Petroleum Institute (API), an industry group that represents about 400 oil and natural gas corporations, said its crude oil inventory data for the week ending January 8 showed a draw of 3.9 million barrels.

The EIA said stockpiles at Cushing, Oklahoma, the delivery point for WTI futures and the biggest U.S. oil-storage hub for WTI futures, rose by 97,000 barrels to 64.01 million barrels, a new record level. Total storage capacity for the site was 71.4 million barrels as of March 31, according to the EIA.

As of January 5, there were 231,998 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 6,921 long positions from the previous week, according to the Commitment of Traders (COT) data released by the Commodity Futures Trading Commission (CFTC). 

This is compared to about 182,562 short positions, an increase of 17,394 short positions from the previous week where light sweet crude oil contracts are traded in units of 1,000 barrels. Apparently, hedge funds were betting on a major pullback in crude prices, as they have increased their net short positions by about 24,314 contracts. 

From our technical viewpoint, the crude oil price just bounced off the trendline support of the descending (DES) wedge chart pattern at $29.93 a barrel, as its downtrend continues in a bearish lower low chart pattern, meaning every low (L) is lower than the previous low. The near-term trendline resistances are at $32.50 and $33 per barrel, if the crude oil price continues its upward move.

A potential price war between Saudi Arabia and Iran, after Saudi Arabia cut diplomatic ties with Iran last week, may be on the horizon and put downward pressure on the crude prices. Saudi Arabia has already sharply cut the prices it charges for crude oil in Europe, a move that could undercut Iran as sectarian tensions escalate between the rival Middle Eastern nations, said The Wall Street Journal. 

The sanctions imposed on Iran could come to an end as soon as next Monday and Iran crude will start flowing again into the world market. Iran's Oil Minister Bijan Namdar Zanganeh said in November, 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 barrels per day (bpd) once sanctions are lifted. Iran produced 2.8 million bpd of crude oil and exported 1.26 million bpd in November, according to Reuters.


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