While the natural gas market consolidated yesterday after Monday’s moon-shot, crude oil bears assumed the spotlight on Tuesday. The spot market for February WTI dropped 4.6% (peak-to-trough) through the first two sessions of 2011. However, bearish momentum yesterday stalled just below the midpoint, 88.83, of a congestive range from the first half of December.
Similar to the story behind Monday’s spike in the natural gas market, the seeds of yesterday’s plunge in oil prices can be traced back to the latest CFTC Commitment of Traders report. For instance, as of the end of 2010 money managers were holding their most bullish position ever, net 202,221 contracts.
In other words, the guys and dolls on Wall Street owned 5.5 “paper” barrels for every 1 physical barrel sitting in tank at the Nymex hub in Cushing, Okla.
Thus, as we entered this year, money managers were holding one of their most bearish positions ever in the natural gas market and their most bullish position in crude oil. Consequently, the ratio between Nymex crude oil contracts and natural gas contracts stood near an all-time high last week of around 2.2, i.e. one contract for $92 crude oil could have purchased more than two contracts of $4.10 natural gas.
As illustrated in today’s issue of The Schork Report, the differential in managed money accounts between net length in the oil market and net shorts in the natural gas market was close to an all-time high, 336,995 contacts at the end of 2010. In this vein, it is not hard to imagine that as money managers sell natural gas and use those proceeds to buy crude oil the ratio between the two contracts rises.
In fact, since 2006, as far back as the CFTC disaggregates the data, the correlation coefficient between the disposition of crude oil and natural gas positions held by money managers and the ratio between WTI and natural gas on the Nymex is a firm 0.795 with a coefficient of determination (R2) of 0.633.
Intuitively, 63% of the movement in the ratio between crude oil and gas can be explained by the respective positions held by fund managers. Per last night’s settles the ratio had narrowed to 1.91. Thus, as we begin the third trading day of the year it should be safe to assume money managers are a heck of a lot less bullish crude oil and less bearish natural gas.
If they have not learned their lesson by now, then some further corrective action may be forthcoming.
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Stephen Schork is the Editor of The Schork Reportand has more than 17 years experience in physical commodity and derivatives trading, risk systems modeling and structured commodity finance.