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Can You Spell V-O-L-A-T-I-L-I-T-Y?

by | published May 6th, 2011

The past three days have provided a graphic example of what volatility can do in the oil market.

This is the reason I have emphasized it – from the very beginning of Oil & Energy Investor – as the primary driver of oil prices moving forward. (See “What Crude Oil Prices are Telling Us,” October 1, 2010.)

Volatility does not mean that prices will be moving in only one direction, as the past several days have clearly indicated.

Yesterday’s 8.6% decline in NYMEX crude oil prices concluded athree-day drop of 12.5%. Through the four trading sessions ending yesterday, RBOB had declined 11%.

Both crude oil and RBOB (the New York-traded gasoline) futures contracts are moving back up today. We may well see some range trading for a bit, as the market reacts to the recent price plunge. (In fact, don’t be surprised if you see them weakening late today.)

We just happen to be in the middle of the monthly options cycle, and there are still readjustments in calls and puts to maximize spread before they expire in two weeks.

Nonetheless, this was a very significant adjustment.

Yet such heavy gyrations are not the result of any significant market developments.

Let me repeat that this way: There is nothing happening in the market to justify such a plunge.

So why did it happen – a disappointing preliminary employment figure (prior to the much better one emerging today), continuing concerns over stockpile surpluses at Cushing, OK, or figures indicating greater crude oil inventories at refineries?

No. None of the above.

All of these factors have been in and out of the market for months with no major impact. They are all ultimately coming down on the demand side of the question, looking for indications that demand destruction is on the horizon and – with it – a downward pressure on pricing.

Every once in a while, this mantra becomes a self-fulfilling prophecy. Yet it never tells us very much at all.

Because, despite the concerns expressed over U.S. demand levels, elsewhere in the world it is quite a different story.

This Is A Global Oil Market

Now, this is a very important dimension to the market that it usually overlooked.

Americans emphasize domestic market considerations – supply, demand, refinery capacity utilization – with the idea being that, so long as we can balance the market in the Lower 48, we are insulated from outside pressures.

No longer happens that way.

This is a global oil and oil products market. What happens anywhere has an effect everywhere else.

While the importing of additional amounts of crude oil into the U.S. is on everybody’s radar, few recognize that there are also increasing imports of gasoline, diesel, jet fuel, and (depending upon local market conditions) even asphalt into the American market.

Just one aspect will drive the point home.

As the renewed pressure downwards hits in late afternoon NYMEX trading today (I can almost guarantee on that… just watch it unfold mid-afternoon), where is Brent going in London? It will be in the opposite direction, with the spread between West Texas Intermediate in New York and Brent in London expanding again.

Wrong, Wrong, and Wrong Again

The most ridiculous explanation of all floating about out there is the death of Osama Bin Laden. I have been hearing this by talking idiots on the tube for days.

Somehow, the decline in oil prices is a result of a team of Navy SEALs…?

There is absolutely no correlation between taking out a nasty person and oil prices. It is about as significant as saying his death has boosted the Pirates’ chances for winning the Pennant. (Recall I live in Pittsburgh, and reaching summer around here, thoughts start turning to football and hockey.)

There are no genuine answers out there from the conventional pundits.

Was the market overheated? Yes.

Were the speculators moving prices too high? Yes… That is always the case when the pricing trajectory is moving quickly in one direction or the other.

Did traders wake up a few days ago and find religion? Unlikely.

But none of these “causes” make any real difference, anyway.

The market remains the same, and the dynamics of that market remain the same. Crude oil pricing will continue to increase, despite the “correction” this week.

Here is the important thing to remember about all of this: An investor will make his or her primary return from trading the volatility correctly… not simply trading the price level.

So take a deep breath.

A rocky ride is getting rockier… but there are profits at the other end.

Sincerely,

Kent

[Editor's Note: The Portfolio for Kent's trading service is set up to profit from situations just like this. Take a closer look at his Energy Advantage, which shows individual investors how to make the real money in energy.]

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  1. harvey mcgehee
    May 6th, 2011 at 14:36 | #1

    Kent,

    Day after subscribing to yout energy news I bought several thousand shares SATC at $2.56 on your strong rec. I know you rec 4 companies but your srongest rec on 3 to 4 times money in the next 12 months was compelling. I know you rec 30% stop and it’s about there now. Do you still like upside for 2011 or have the poor numbers and next quarter forecast dampened your short term spirits ? thank you

  2. charles dexter
    May 6th, 2011 at 15:01 | #2

    Please continue to post (some of) your comments in writing. Listening to the spoken word is MUCH TOO TEDIOUS for me.
    If you could somehow get rid of that method, it would suit me a great deal.

  3. jay adams
    May 6th, 2011 at 15:36 | #3

    I really am surprised that i am totally in agreement with the statement that reading your comments is sooooooooo much easier than listening to them. I welcome any new strategy towards that style….perhaps Mr.Dexter and I are wired for the visual and tired of so much “”"Noise”". Thanks for your very keen insights, already proving helpful.

  4. May 6th, 2011 at 16:18 | #4

    Thank you once again Dr. Moors for emphasizing that this is a GLOBAL oil market and sadly, America is not the world anymore! I was puzzled why the drop was so deep yesterday ($10 plunge) and thought, there could be a floor not far, what with emerging companies (there’s more now apart from the BRICs) burning oil “unreported”. I’m on the bullish side as far as Oil is concerned, just have to hedge the risk with all rising prices of goods! Here in Australia – very pronounced as all our food gets trucked around from the bush to the cities! Trader Mom blogs at highheeledtraders.com

  5. May 6th, 2011 at 16:19 | #5

    sorry! emerging ECONOMIES, not companies

  6. Dan
    May 6th, 2011 at 16:40 | #6

    I too have been laughing at the Bin Laden explanation. However, what isn’t funny is that the speculators have so much leverage to play with that they actually cause these price moves. Limiting leverage in the futures markets would lessen the volume of speculation, and move the use of futures toward actual hadging instead. This would cut out major bubbles, leading to less volatility. BTW, volatility is a symptom of an inefficient market, not an efficient one! Do not dismiss volatility as a natural phenomenon. The futures market was set up to E-L-I-M-I-N-A-T-E volatility, and if it is not doing so, it is not working properly. The more of this market manipulation we tolerate and defend, the more we will end up with.

  7. Michael Upper
    May 6th, 2011 at 18:22 | #7

    Kent:

    Basics are always in style. I believe that to my core. However, there is money to be made in trading and trading is all about timing…which I cannot do. Even selling when a stock has doubled in value from when we bought it can be the wrong thing to do because it could double again or even triple based on the basics of the company and the market. Market always seems to account for about 30-40% of the price of an individual stock. For example, I owned a few shares of Chesapeake before I ever heard of you and wanted to buy even more but was waiting for the price to go below $20/share…it never did go that low as it had in prior off-season years. Then everybody jumped on the band wagon and drove the price to where it is today. When we double our money do we get out or stay in to ride it even higher based on intrinsic value?

    Timing for a non-trading investor like myself is still important.

    I identify with your thinking and style but still have a problem doing the right thing at the right time.

    Best,

    Michael Upper

  8. Viracocha
    May 7th, 2011 at 05:25 | #8

    Watch the EUR and USD!

  9. Richard
    May 8th, 2011 at 12:40 | #9

    Kent:
    Since joining the Energy Advantage and Inner Circle in March of this year I have been tracking V-O-L-I-T-I-L-I-T-Y on these portfolios. Lets say each dash represents a week of volitility and my percentage profit return have looked like the following:

    Date Circle & Adv Energy Adv Inner Circle 03/11/11 (2.18%) (2.18%)
    03/18/11 0.09% (0.23%) 4.92%
    03/25/11 5.31% 4.37% 8.71%
    04/01/11 8.98% 8.15% 11.98% 04/08/11 6.89% 6.14% 7.07%
    04/15/11 2.99% 2.29% 5.04%
    04/21/11 5.11% 4.56% 6.69%
    04/29/11 6.25% 5.06% 9.57%
    05/06/11 (2.25%) (3.56%) 1.77%

    Yes indeed, it has been one wild ride! The sails have collapsed on wind energy, and electrical has performed better than oil, gas, and piplines. That is, except for the electrical duel recommendation in both portfolios.
    Since I have not had the opportunity of realizing profits since portfolio inception I sometimes wonder if I should have taken profits on either 04/01/2011 or 04/29/2011. Also, by taking early profits I can free up money for future recommendations since I do not have a infinite well of cash. At the same time, I do not want to sell the duel electrical and natural gas losers just to free up extra cash for other purchases.
    Since I don’t have cash for everthing and new recommendations have been added at a fast clip I am wondering about a rating system such as good-better-best? But at the same time, the good quickly become the best and the best just as quick drop down to become only the good or worse. Reminds me of that Clint Eastwood spaghetti western: The Good, The Bad, and The Ugly.
    Well Dr. Moors, can’t say you did not warn me about Volitility in the Energy Sector. Not only do “I Trust YOU” with my money, but I am looking forward to the next leg up in energy prices(volitility to the upside in prices), and then take some profits—but only when you say so. Trust, Trust, Trust. I am following you to the letter!

    Richard

  10. KEN R.
    May 9th, 2011 at 14:10 | #10

    TWO OF YOUR WRITERS TODAY VOICED THEIR OPINION ABOUT THE “FAKE VIDEO”
    AND HAVING TO LISTEN TO THE MESSAGE. BE IT KNOWN TO ONE AND ALL THAT
    I CAN READ THE PRINTED WORD FASTER THAN THE STAR OF THOSE FAKE VIDS.
    I’S SURE YOUR PRODUCERS ARE IN CONTROL OF PRESENTATION ,BUT THANKFULLY
    DR KENT IS IN CHARGE OF THE MESSAGE

  11. KEN R.
    May 9th, 2011 at 14:12 | #11

    I USE LARGE CAPS BECAUSE OF SEVERE VISION PROBLEMS_____________

  12. jaswinder dhillon
    May 10th, 2011 at 20:41 | #12

    thank,s for your infromation.

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