Research Excerpts

Oil Prices: Smart Money Skeptical At $103 Per Barrel

Posted on: Wednesday, June 4th, 2014

One of several investor asset-flow based investor sentiment metrics that we track is the weekly Commitments of Traders (CoT) data. 

The CoT data, compiled and published by the Commodity Futures Trading Commission (CFTC), breaks down futures open interest to determine and disclose how several different types of investor are positioned in the marketplace.

One COT data series that has caught our attention recently is the current positioning of the Commercial Hedger and Large Speculator categories in crude oil futures.

First, a little background information.  Commercial hedgers are large traders who also deal in the commodity on a cash basis, which in this case would include oil producers. These entities typically accumulate a net position against the trend, to hedge their physical interest in the commodity.  Think of them as value barometers.  More specifically, this group indicates, via their positioning in the futures market, when the smart money thinks (and, more importantly, is betting) that an asset is either over- or under valued.

Large Speculators are non-commercial large traders who have no dealings in the underlying commodity.  They are typically commodity funds who accumulate a net position with the trend.

The chart below shows that Commercial Hedgers are currently hovering near a record net short (bearish) extreme of 445,492 crude oil contracts (red line, upper panel) while the trend following Large Speculators are coincidentally holding a near record net long (bullish) position of 423,136 contracts (blue line, middle panel).

Crude Oil Futures Since 2006 & COT Data

Crude Oil Futures Since 2006 & COT Data

This indicates that the smart money, who is in the oil business, is aggressively betting that crude oil is currently over-priced at $103 per barrel.  If they are correct, and they almost always are, this means that any decline that pushes oil back below $100 per barrel will probably send these very aggressively net long commodity funds heading for the exits, and that forced selling could fuel the decline that the smart money is betting on.

The pink highlights between all 3 panels show that the previous two similar net positioning extremes by the Commercials and Large Speculators, back in April 2011 and again in February 2012, immediately preceded two 30% declines in oil prices as in each instance they dove back below $100 per barrel.

Crude oil prices have historically been an economic barometer that can indirectly indicate, and sometimes lead, upcoming direction in other financial asset prices.  This can be seen in the periodic positive correlation between oil prices and the S&P 500 during the past decade.

Asbury Research subscribers can view our latest macro overview of the US financial landscape, including US stocks and sectors (we have been overweight the Energy Sector since March 3rd), US interest rates, the US Dollar. and economically influential commodity prices like crude oil, copper and gold, by logging into our Research Sector

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