Week Ending September 3

WTI fell only 9c to settle Friday at $69.12/Bbl. OPEC+ met on Wednesday and quickly affirmed their previously agreed-upon plan to raise production by 400 MBbl/d, each month until the held-back supply is exhausted.

There are growing concerns that the oil market will be oversupplied in 2022; it is giving market bulls some pause. Oversupply is not very likely this year, while the remainder of 2021 is expected to be tight by about 1 MMBbl/d. However, OPEC’s own numbers suggest an oil market glut of 1.6 MMBbl/d next year.

There are implications to consider. First, if OPEC and its allies want to keep prices buoyed, the OPEC+ group may need to deviate from their current plan of bringing all their sidelined supply back over the next 12 months. Furthermore, let us suppose 2022 will be loose. In that case, factors like Iranian supply possibly re-entering the market could have an outsized effect than if the oil market were expected to be in further undersupply like there is currently.

The likelihood of oversupply in 2022 doesn’t necessarily cause us to be bearish the forward curve. But, a greater proportion of AEGIS clients should lean on swaps in Cal 2022 rather than a mix of costless collars and swaps as previously recommended.

For 2023, collars may make more sense given the backwardation and those who want more upside participation. Still, current swap is at $61/Bbl, and many clients would likely choose the six-handle protection. If you’re already well hedged for 2022, consider the following: If the market rallies, look for an opportunity where a costless collar’s floor would be above $60/Bbl, so you would get all the protection to $60, but with extended upside. We note that $60 is not a magic number. Substitute the price that gets you to your financial goals.

What’s the proper price for January gas? The futures market says $4.89 as of the close, Friday. But the options market, which trades based on probabilities, has a different answer: The most likely January price, per the options market, is $5.30!! Hoo boy. And, it implies there is a 25% chance we could settle at $7.54 or higher.

There is a HUGE winter scare premium in the market. And the fundamentals support it.

We struggle to find likely disruptions to current pricing in supply or demand. Our best bearish factors include a possible return of Appalachia gas from seasonal curtailments. A mild close to summer weather and a slow start of winter, of course. But, beyond that? LNG demand seems sound, and power-generation demand has been resilient.

Price action has shown a propensity for buyers of gas to get really active on the slightest hint of lower inventories or resilient demand. Why have the rallies been so sudden and large while supply-demand fundamentals haven’t changed much?

We have a few favorite explanations. Number one, some traders may have been forced to buy a lot of gas, all at once, to cover short positions. This can happen near expiration dates or if prices rise to threaten strike prices of existing shorts. It seems very likely to have happened in the last two weeks.

Number two, the consumer side may be buying swaps and options, driving up both price and implied volatility. If you were a consumer without gas hedges in place, you would probably be worried right now (and you should call us; please don’t buy call options). Consumers have itchy trigger fingers as higher prices make their budgets worse and worse.

But whatever the cause, both the price trend and fundamentals say elevated prices have reason to stay here or go higher.

With that in mind, AEGIS is still recommending producers use costless collars rather than swaps for the entire forward curve. Few AEGIS clients have hedging needs for the remainder of the year, but if you do, take the swaps because options valuations don’t reward you much.