To really understand what’s helping push oil prices toward $70 a barrel, just follow the money.
Investors have piled into commodities markets in the last month as the most bullish oil market structure in years is buttressed by OPEC-led production cuts, strong global economic growth and a softer U.S. dollar. With crude trading near a three-year high, here’s a look at how investors have increased their thirst for oil.
Taking the Long View
For many investors, it’s all about backwardation. As oil supplies have tightened, near-term contracts have become pricier than later-dated ones. That market structure makes it profitable to hold onto a long position, as each month investors roll into cheaper contracts further along the curve. Last week, the nearest Brent futures were trading at their biggest premium to those for a year later since 2014. “Being long oil gives a positive annual return, even if oil stays flat,” said Giovanni Staunovo, a commodity analyst at UBS Group AG. “The last time you could say that was in 2014.”
Strong Growth, Weaker Dollar
The global macro-economic picture is also supporting prices. While surging economic growth helped demand to soar in 2017, the U.S. dollar slid through most of the year as other global economies fared better. With the typical inverse link between crude prices and the dollar taking hold once again in the second half of the year, oil got another shove. This week, the U.S. Department of Energy boosted its 2018 global oil demand outlook by 150,000 barrels a day, an indication that economic buoyancy may continue this year. “Recent price strength can be partially explained by dollar weakness, and both are the result of strong global economic growth,” said Jan Edelmann, commodity strategist at HSH Nordbank AG.
Broad Rotation
It’s not just oil that has a spring in its step. Whether it’s equity gauges being led higher by oil and gas companies or gains in other commodities markets, there’s been a broad-based rotation into materials and the companies that process them. Shares in Royal Dutch Shell Plc touched a record this week, while the Bloomberg Commodity Index has just come off the back of its best-ever run of gains. “The psychology and sentiment is really strong at the moment,” said Torbjorn Kjus, chief oil analyst at DNB Bank ASA. “It seems to be a broad macro view that not only oil but also other commodities are going to have a good year in 2018.”
The Trend Is Your Friend
Crude prices are currently in an uptrend that began midway through last year. With prices up as much as 56 percent from their June lows, Brent has barely paused for breath. That’s made it hard for bears to wrestle back the initiative. “Trying to pick the top in a market like this is always a very dangerous pastime because you’re trading against the prevailing trend,” said Michael Hewson, analyst at CMC Markets Plc.
Danger Above?
The flip side is that there are plenty of technical warning signs flashing red. Both Brent and WTI have closed in overbought territory in recent days, while a major Fibonacci retracement level sits at about $71.40 for Brent, should the psychologically key $70-a-barrel marker be pierced. As a result, “$70 to $72 a barrel looks toppish in the short-term,” Hewson said.
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