Crude oil has fallen precipitously in the past six months, dropping more than $100 a barrel from its all-time high in July 2008. The big institutional market participants may be targeting a move to $30 or just below, but as bad as the economy is, I remain convinced the market will rebound in coming months. This recent pullback presents an outstanding opportunity for traders. I recommend a strategy that involves buying puts for a short-term move even lower, and then buying futures for a spring rebound before driving season.
February crude oil market bottomed under $37 on Tuesday, January 13, 2008, before edging higher into the close. Some analysts don’t see this as the bottom just yet, however, as the recession continues to bring somber economic news that is impacting commodities nearly across the board. In a forecast released January 9, 2009, Goldman Sachs Group said that “weak underlying economic fundamentals” will dominate the oil market and predicted the market would move to $30 a barrel in the first quarter.
This morning, we had news from the Commerce Department that retail sales fell 2.7 percent in December, greater than anticipated. And corporations are in the midst of earnings season, and it’s been dire.
Meanwhile, the Organization of Petroleum Exporting Countries, which supplies more than 40 percent of the world’s oil, has been attempting to boost prices, to no avail so far. OPEC members have agreed to slash production quotas by 9 percent. Production cuts will eventually lead to a drop in stockpiles, and if that occurs at a time the U.S. economy is starting to pull out of its malaise, crude oil prices will start to trend higher. For now, inventories are strong and the trend in crude remains bearish in the short-term. According to a report out this week from the Energy Information Administration, global oil demand is seen dropping 1.2 percent in the current quarter. Watch weekly inventory data, out every Wednesday, for clues as to market direction.
I recommend buying the April crude oil $35 put now, which will cost about $1,100 excluding your commission charges. On a move to $35, I would then recommend placing an open order buy in the April futures, which offers you unlimited upside potential if the market rebounds. If the market heads below $35, you have some of your downside risk protected with the option. I think the market is likely to retest the lows and possibly make new lows, but is close to a bottom.
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