Looking at this week’s COT report, Canadian dollar longs remain at bullish extremes (despite a big change in net long positions), while crude longs are starting to look extreme based on 3-year trailing net positions. This is shown below:
CFTC COT (futures & options combined) – October 31, 2017
Notable extremes are bolded, and are highlighted when speculator positioning is more than two standard deviations above historical trailing 1-year and 3-year trends. Looking at changes versus the previous week, three trends emerge from the data.
Firstly, speculators continue to build long USD positions. While implied US dollar positioning remains net short, the most recent net short position is much smaller relative to its peak in late September (when speculators were 176,986 contracts net short). Secondly, inflation-sensitive assets remain out of favor. Last week saw speculators trim positions in gold, the yen and the Swiss franc in particular. Thirdly, optimism for crude is starting to look extreme by some measures, as speculators continue to increase their net long positions.
Extremes in crude oil have correlated well with tops and bottoms
Looking at recent history, long positions in crude oil looked extreme in late February and early August of this year. Back in February, WTI was trading well above $50 per barrel and had strengthened following Trump’s victory in the US elections. After positioning hit extremes in late February, prices eventually fell below $50 in March thanks to significant increases in US crude stocks and rising US shale production.
In early August crude oil long positions were again at bullish extremes, to the tune of 533,521 futures and options contracts long. This time, speculators were buying crude thanks to rising inventories, and sent prices to $50. By the end of the month, prices retraced down to $45 per barrel, following the impact of Hurricane Harvey. This is visually shown below:
This is the third time crude oil prices have hit bullish extremes this year
While extremes in speculator positions do not suggest that a turning point for crude prices is imminent, it does suggest heighted caution when going long the commodity at today’s prices. Our fundamental view is that crude oil is supported today as demand growth remains stronger than supply growth. This is based on historical global market data from sources including the International Energy Agency and the US Energy Information Administration. Looking into the future, supply growth is not expected to overtake demand growth until 2018. In early 2018, we expect the ‘imbalance’ in crude oil to return thanks to surging shale oil supply from the US, which will ultimately bring about the next bear market for the commodity. The last time supply growth accelerated ahead of demand growth was in Q2 2014, which caused crude prices to fall sharply.
Despite our bullish fundamental view, extremes in speculator sentiment are a cause for concern and suggest crude prices may be at another short-term peak. Caution is warranted.