Thoughts on Crude Oil

General overview

• Upstream exploration companies are heavily leverage. When attempting to trade on crude oil opt to trade hold position directly in the commodity as opposed to the companies operating within the sector
• Supply side economics
  • Shale companies needs WTI crude oil above USD45-50/barrel to be profitable
  • Saudi Arabia needs Brent crude oil above USD83/barrel to balance state budget
  • Russia can balance state budget below Brent USD43/barrel
• Cost of production
  • Off shore rig lifting cost: USD 20/barrel
  • Shale oil lifting cost: USD30/barrel
  • Saudi Arabia lifting cost: USD2.80/barrel
• Demand side
  • China is one of the largest consumption of crude oil. Carbon Monoxide levels can be used as a proxy to estimate consumption
  • Federal reserve interest rate cut to facilitate economic growth and expansion

Event types

• Downwards pressure
  • Events that impede the free flow of goods and global demand apply downwards pressure on price
    • Jan 2020 Corona scare (Company versus Mother Nature)
    • Dec 2018 US/China trade war escalation (Government versusGovernment )
  • Events that flood the world with oil apply downwards pressure on price
    • Saudi Arabia and Iran 2015/2016 – lowest reached at USD26.21 on 11th Feb 2016 before truce was called for .Bankruptcy rates within sector has been high since then.
    • 6th March 2020 – Russia refuses to cut production on during OPEC+ meeting in Vienna following US sanction of Rosneft on 17th Feb 2020 and Nord Stream 2
  • Events that make credit more expensive
    • Dec 24th 2018 Federal reserve hikes interest rate
• Upwards pressure
  • Events that restrict supply apply upwards pressure on oil
    • 14th Sep 2019 Houthi bombing of Saudi Arabia oil refinery
    • Libya civil war cuts off oil supply from country to rest of the world
    • June 21 2017 – WTI price started rebounding from 42.53 after OPEC+ agrees to production freeze
  • Events that make credit cheaper to facilitate economic expansion
    • Dec 27 2018 – WTI price started rebounding from 44.61 after Federal reserve expressed dovish stance and reduce expected hike to 2 from 3 following trade war escalation between China and US by President Trump

Trading approach

• Establish presence of bullish/bearish trend by observing MACD line in 5D/1M/3M view
• Buy OILU when  90 day MACD trend turns bullish or bullishness gains momentum
• Sell when OILU when 90 day MACD bullish trend losses momentum
• Buy OILD when 90 day MACD trend turns bearish or bearishness gains momentum
• Sell OILD when 90 day MACD bearish trend reverse losses momentum
• Exit OILD when WTI price drops below USD45
• Exit OILU when WTI price rises above USD60
• Enter OILU when
  • WTI USD40-45/barrel – when no deliberate flooding by OPEC+
  • WTI USD26/barrel – when deliberate flooding by OPEC+

Observations on employing trading approach

• Deliberate market making activities by operator to balance funds on OILD and OILU is disadvantageous for trading.
• Correlations of ETF prices to actual WTI prices is delayed
• The bulk of the price action occurs pre-market and post-market during time slots where placement of position is not possible
• Delays are observed between placing and filling of orders

Related References

• https://www.investing.com/commodities/crude-oil-historical-data
• Loss aversion reversion to mean trading strategy
• Conversations with Garis on using reversals in Forex style trading