January 11

Traders Speculate on $110 Oil As Middle East Tensions Escalate

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Traders are purchasing call option spreads on Brent Crude, betting that oil prices will hit $110 per barrel by the end of March and April, with bets equivalent to around 30 million barrels.
Current market fundamentals and analyst projections suggest a balanced or slightly surplus oil market, casting doubt on the likelihood of such a drastic price increase.
Geopolitical tensions in the Middle East, particularly involving the Iran-aligned Houthi rebels, are central to the speculation, though analysts largely believe a major escalation is unlikely.

While oil prices have been struggling to move above $80 per barrel for weeks, some traders have bet on oil hitting as high as $110 a barrel in the early spring.

It looks like some speculators are betting on a major escalation of the conflict in the Middle East in the coming months, considering the fact that fundamentals and analysts suggest a balanced market or a market in a slight surplus early this year.

The $110/$130 call option spreads on Brent Crude for May and June have attracted bets equivalent to around 30 million barrels, Bloomberg reports, citing data from exchanges and brokers. The buyers of this particular option spread would profit if oil prices hit $110 per barrel by the end of March and end of April, when the May and June option contracts expire, respectively.

Apart from a wide escalation of the war in the Middle East to involve other countries and a direct threat to crude oil supply, analysts currently don’t see how oil prices could spike above $100 per barrel in the first half of the year.

The Red Sea tensions are high as the Iran-aligned Houthi rebels fired from Yemen on Wednesday one of their largest barrage of drones and missiles targeting shipping in the Red Sea. U.S. and UK Navy ships shot down drones and missiles as they are looking to protect cargo and crude shipping in the vital sea lanes in the Middle East, including the Suez Canal and the Bab el-Mandeb Strait.

The U.S. is looking to de-escalate tensions, but sparks could fly near some of the most important sea trade routes at any moment.

Still, analysts and market participants have so far largely believed that a major escalation is unlikely, as oil prices and speculators’ positioning in recent weeks suggest.

Hedge funds and other portfolio managers ended the last week of 2023 with the most new bearish positions in futures and options contracts since March and the second-largest jump in weekly shorts additions since 2017.

“This move was predominantly driven by fresh shorts entering the market, with the gross short increasing by 28,578 lots over the week,” ING strategists Warren Patterson and Ewa Manthey wrote in a note on Monday.

The net long in NYMEX WTI was also reduced, by 35,869 lots over the period to 89,330 lots as of January 2. This reduction was also predominantly driven by fresh shorts entering the market, ING’s analysts added.

On Tuesday, Brent rallied by nearly 2% and the backwardation in the prompt Brent time spread also widened, ING said on Wednesday.

“However, for now the flat price remains firmly below US$80/bbl and with the balance expected to be fairly comfortable over the 1H24, significant upside is likely limited,” the analysts said.

Barring a major geopolitical escalation resulting in a large supply outage—which cannot be discounted—, oil prices are unlikely to reach $100 a barrel in 2024 as American oil production and exports are rising faster and higher than expected, and market sentiment about demand is downbeat, especially for the first half of 2024.

Expected weak global economic growth would slow oil demand growth in 2024, keeping the average U.S. benchmark WTI Crude oil price at below $80 per barrel, according to the monthly Reuters poll at end-December, in which analysts revised down their forecasts for 2024 from the previous month’s projections.

Brent Crude prices are now expected to average $82.56 per barrel this year, down from the $84.43 consensus forecast in the November poll.

In the December Reuters survey, only one of 34 contributors said they expected the average Brent Crude prices to be above $90 per barrel in 2024.

Source: Oilprice.com

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