The $600 Million Signal that the Oil Crunch is Over
Pundits just missed a $600 million signal that oil’s downward slide is over.
You see, oil “sages” everywhere are now calling for $40-$50 a barrel oil by mid-year. As proof, they call on vague rumors of a Saudi-Russia deal to cut oil production, costly shale oil producers collapsing, or the energy debt crisis.
But they’re overlooking one crucial thing – the main signal that oil prices are turning around.
You see, the largest move of its kind ever just took place in oil markets… $600 million worth in one day.
Pundits may have missed it, but that doesn’t mean you have to. It’s a clear sign that oil prices are turning around…
Oil Prices Are Artificially Deflated – For Now
While volatility in oil prices continues, a consensus is rising that the current slide is nearing its end. Daniel Yergin yesterday was the latest “sage” to say he expected crude in the range of $40-$50 a barrel by mid-year.
Of course, that still puts the price at less than half of where it stood in the summer of 2014, just before the collapse set in.
My algorithm to determine the “discount” on oil caused by distorting artificial manipulation puts it at $12 a barrel at close yesterday for WTI (the benchmark for oil futures contracts traded in New York).
With WTI closing yesterday at $31.72 a barrel, that effectively puts the actual market price at a shade below $44. That’s hardly $70 or $80, but it will allow us to make some nice gains when buying returns in earnest to a distinctly oversold sector.
And return it will.
Because a singular event happened this week, an event that indicates the end of declining oil prices more than any other…
This $600 Million Signal Shows That Oil Is Going Up
Despite what the pundits will tell you, this is not about a Russian-Saudi agreement to cut production, a wave of domestic company collapses in the above-cost shale operating sector in the U.S., or the expected next phase of a constriction in high risk energy debt.
While all of these are factors that are likely to be weighing in shortly, the main signal came earlier this week from something else entirely.
This is an indicator I have been watching for a while. And it shows how negatively trades that have little to do with the underlying dynamics of oil have influenced crude prices.
On Tuesday, the sale of a huge position in the VelocityShares 3x Inverse Crude Oil ETN (NYSEArca:DWTI) hit, amounting to more than 1.8 million shares with a total value of over $600 million. Given the delay in transmission, these orders were actually filed on Monday.
WTI then spiked 8% on Wednesday.
An ETN, or exchange-traded note, operates much the same way as an exchange-traded fund (ETF). Both will track an index or equivalent. DWTI, for example, is pegged to the S&P GSCI Crude Oil Index ER and provides a three-time inverse return. That means that if oil goes down, the ETN will go up three times as much.
However, there is one crucial difference…
This Was the Largest ETN Move Ever in One Day
While an ETF provides a return based on the underlying performance of the stocks in an index, an ETN is actually an unsecured, unsubordinated debt security meant to combine the performance of a bond with that of an index.
An inverse over-weighted ETN like DWTI will be highly volatile when the underlying investment instrument fluctuates widely in price.
Remember, DWTI will return a reverse that is roughly three times the movement in oil. If oil prices are declining, DWTI will make a holder some nice cash quick.
On the other hand, when oil is advancing, the losses can quickly add up.
DWTI doubled in value rapidly last month as the price of oil declined. But it has been declining in value over the past several days as crude oil has advanced. It is still up over 20% for 2016 as a whole.
Following this rise in oil, and fall in DWTI – remember, three times as large – an unknown number of heavy players bailed out this week in one of the largest coordinated withdrawals from an ETN ever recorded in a single day, valued at $600 million.
Whatever else is happening, these players have clearly concluded the decline in oil is over.
Now, a move of this size has significant ripple effects…
Less Than Half of This Bearish ETN is Left
Using data provided on the VelocityShares’ website, the overall market cap of DWTI declined from over $1 billion to less than $420 million on Tuesday and less than $325 million on Wednesday as a result of the large liquidation.
Given that DWTI’s market cap averaged about $200 million when the oil pricing curve was less volatile, this provides stark evidence that the anticipation of a downward movement in prices is a recent phenomenon.
But that’s not all. The $600 million redemption that hit on Tuesday also had another effect…
Positive Effects for the Price of Oil Are Spreading
Credit Suisse, a Swiss financial services company, is the issuer of record for DWTI. They also issue a “sister” ETN, the VelocityShares 3x Long Crude Oil ETN (NYSEArca:UWTI), which moves in the same direction as oil, three times as fast.
As our mystery oil players were redeeming $600 million worth of shares in DWTI, Credit Suisse was forced to buy back any short positions it was carrying – rapidly.
That, in turn, emphasized the decline in DWTI’s market cap, providing additional fuel for a further rise in crude prices. This led to some rather pronounced spikes in trading volume of crude oil futures contracts.
The most intriguing element of this story, however, illustrates just how much pressure artificial moves to keep oil down can exert. On Wednesday, crude prices rose by 8%, completely ignoring what would normally have been news pushing prices down.
You see, the Energy Information Administration (EIA) on Wednesday reported that weekly oil supplies had increased by a hefty 7.8 million barrels. A surge in oil inventories of that size normally pushes oil prices down significantly.
Instead, exactly the opposite took place.
That shows just how undersold the oil market has been, and the force behind oil’s upward pressure now that some of these artificial moves to keep oil down are lifting.
[Editor’s Note: Kent’s Energy Advantage Members are set up perfectly for a resurgence in oil. They’re also set up perfectly for this, the $48 trillion energy revolution.]