Hedge Fund Short Covering Lifts Oil
In recent weeks short covering, rather than long building, has driven oil prices higher, which suggests fund managers are becoming less bearish about prices rather than more bullish.
Hedge funds and other money managers continued to reduce their short positions in crude and refined fuels in the week to July 25, pushing prices higher.
Hedge funds reduced total short positions in the five major futures and options contracts linked to crude, gasoline and heating oil by 71 million barrels, according to data published by regulators and exchanges.
Total short positions have been cut by 231 million barrels over the last four weeks to the lowest since the end of April (http://tmsnrt.rs/2f0JQYk).
Hedge funds now have short positions in crude, gasoline and heating oil totalling 279 million barrels, down from a record 510 million barrels on June 27.
By contrast, total long positions have increased by only 41 million barrels over the same four-week period.
SHORT AND CAUGHT
The prevalence of short covering rather than long building was apparent in four of the five major contracts in the week to July 25.
Hedge funds cut short positions in Brent by 27 million barrels but left long positions unchanged.
Funds cut short positions in NYMEX and ICE WTI by a total of 23 million barrels while long positions actually fell by 6 million barrels.
Short positions in gasoline were cut by 11 million barrels while just 2 million barrels of new long positions were added.
Only in heating oil was the reduction in short positions of 5 million barrels roughly matched by an increase in long positions of 6 million barrels.
But with so many short positions now closed, the short-covering rally has now probably run its course. Short positions in crude and gasoline are well below the level at the start of June when the latest wave of selling began.
From a positioning perspective, if prices are to continue rising, hedge fund managers will have to be convinced to start adding long positions rather than just closing short ones.
Hedge fund long positions in crude, gasoline and heating oil are still relatively low, so there is plenty of scope to add to them, which would help lift prices even higher.
Continued draw downs in U.S. crude inventories and the tightening of Brent calendar spreads indicate the physical oil market is tightening.
But most fund managers seem cautious, having been burned twice before this year, and are waiting for a clear signal the oil market really is rebalancing and will not relapse again.
By John Kemp
