Fear tends to manifest itself much more quickly than greed, so volatile markets tend to be on the downside. In up markets, volatility tends to gradually decline.
- Philip Roth
As to the recent price path in Nymex crude oil, Mr. Roth had it right, initial fear spawned by — what seems to be an endless stream of — “black swans” has now segued into the greed phase.
Since the end of February the Nymex WTI contract for May delivery has rallied from a 92.29 low print (Feb 22nd) to a 108.25 high (Mar-07th) for a 17.3% trough-to-peak rally. Last night the contract hit a high of 106.69. That was the highest high for spot barrels since the start of the month.
At the same time the contract’s average-true-range (ATR) has dropped from 5.82 to 2.35, i.e. dollar volatility has fallen as the market has rallied… just as Mr. Roth would have predicted.
As written to clients in today’s issue of The Schork Report, before the bulls get too greedy, they might want to think about where all of the capital has gone.
After all, money is the rally’s fuel, but in the case of the current path on the Nymex, fuel is being drained from the tank at an impressive clip. For instance, average daily trading volume in oil has dropped by more than half since the end of February, i.e. the same week May WTI bottomed at 92.29. Aggregate daily volume for the week ended February 25th averaged 1.14 million contracts. As far as this week goes, May oil is testing new highs above 106, but volume is averaging only around 0.52 million contracts. Intuitively, a market that rises on decreasing volume is signal that buying pressure is faltering.
Furthermore, aggregate open interest is falling as well, down 5.1% over the last two weeks. In other words, new money is not coming in to fuel the rally. Rather, falling open interest in a rising market is a typical sign that bears are getting stopped out and are offsetting their shorts.
Bottom line, Nymex prices rising on decreasing volume and open interest is a fundamentally bearish signal. Money is just being churned to prop up prices… perhaps with the end-of-quarter in mind.
Analysts at The Schork Report advise that while markets are calm for the time being, when greed turns back into fear, then that calm will transform into panic for the bulls.
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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.