Shifts in commodity prices sometimes have much to do with price discovery as they do with supply and demand. Recent surges over the last six weeks have taken crude oil prices above $100 a barrel, and at first glance it looks like the crude market will trade above that threshold for some time.
SUPPLY/DEMAND OUTLOOK
First let’s look at the supply/demand side of the crude market currently. Crude rose on Tuesday in a choppy session, with U.S. WTI oil settling just under $107, after exports from Libya fell to their lowest in two years, heightening supply worries ahead of scheduled cuts in output from fellow OPEC member Iraq. Striking security guards shut Libya’s two biggest crude export terminals on Monday, hours after they had reopened, and more oilfields have closed in a wave of protest that has swept the North African oil producer. Libya’s deputy oil minister said exports could resume as early as Thursday after workers and local authorities reached an agreement to end the strike.
But the OPEC exporter said it could not make any promises to clients now about its deliveries of crude next month due to the on-off strikes. Markets worried that supplies could be insufficient to meet demand due to restocking before the northern hemisphere winter. Just as a fear premium was built in early July over the Egyptian presidential overthrow, recent Libyan and North African supply fearshave crude threatening the 109.00 a barrel level again.
MARKET ACTION
Second let’s take a look at price discovery. Even after the Egyptian fears abated along with rises in energy stockpiles in Cushing Oklahoma, the lowest spot crude oil dropped to was $102.22 last week basis September Nymex futures. This tells me that there is an underlying bid here in the crude market where pullbacks have become buying opportunities.
Even after some Fed speak last week that the Fed could begin a tape of QE3, the crude market failed to even retest anywhere close to $100.00 a barrel.
THE TRADE
I propose buying the October crude 110 calls and sell the October crude 112 call for a purchase price of 35 cents or a $350.00 risk plus commissions and fees. The risk on the trade is the price paid for the spread plus all commissions and fees with the maximum one could collect if both strikes finished in the money at $2,000.00. If crude can penetrate and possibly surpass near term highs, the spread should possibly be worth more than the entry price paid.
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RISK DISCLOSURE: THERE IS A SUBSTANTIAL RISK OF LOSS IN FUTURES AND OPTIONS TRADING. THIS REPORT IS A SOLICITATION FOR ENTERING A DERIVATIVES TRANSACTION AND ALL TRANSACTIONS INCLUDE A SUBSTANTIAL RISK OF LOSS. THE USE OF A STOP-LOSS ORDER MAY NOT NECESSARILY LIMIT YOUR LOSS TO THE INTENDED AMOUNT. WHILE CURRENT EVENTS, MARKET ANNOUNCEMENTS AND SEASONAL FACTORS ARE TYPICALLY BUILT INTO FUTURES PRICES, A MOVEMENT IN THE CASH MARKET WOULD NOT NECESSARILY MOVE IN TANDEM WITH THE RELATED FUTURES AND OPTIONS CONTRACTS.
