Week Ending October 22

West Texas Intermediate reached another seven-year high this week, settling at $83.76. Bullish sentiment continued this week after stocks at Cushing, Oklahoma, dwindled even further.

Oil at Cushing now stands at just 31 MMBbl, near the lowest seasonal level in the past five years. It is unusual for inventories to decline this time of year, when refineries typically are still conducting scheduled maintenance. But the U.S. Midwest is being drained of oil. Stockpiles at Cushing have declined more than 4 MMBbl over the past two weeks. According to Bloomberg, traders generally believe that below 20 MMBbl, it becomes difficult to maintain normal supply operations at Cushing. It’s a bullish flag for WTI, but also a bearish one for the Midland differential.

Looking globally, Saudi Arabia implied no more oil would flow than planned, saying any extra oil from OPEC+ would do little to tame surging natural gas prices in Europe and Asia. OPEC+ is apparently staying the course with a conservative approach to adding oil supply.

The scarcity of barrels has supported prices, but also led to more backwardation in the forward curve. Backwardation in the oil market has reached extreme levels and can make hedging further down the curve less appealing. However, even Cal 2024 is trading above $63/Bbl, a level at which many of our clients say they are profitable. Want to mitigate the backwardation “penalty?” Costless collars can be an alternative to a swap here if hedges need to be added in Cal 2022 and beyond. The natural put-skew in the market that is usually present in oil options is not as punishing at the moment. This warrants a hard look at using collars instead of swaps.

Mild October weather continued to plague natural gas prices. The November contract fell 9.7c on the week to 5.28. Gas prices seem to imply a fear of a cold winter, if November is not at least “normal” cold, the fear could subside. We believe cold must materialize by December, or the new LNG facilities (Sabine Pass Train 6, Venture Global) must arrive early, to send gas prices much higher. Punctuated early winter demand would cause concern around storage supply for the back half of winter. Without it, the worry may decline, and following it, prices.

For clients looking to hedge Summer 2022 and beyond, consider this. Would you pick up hedging as a stop-loss if we have a warm winter and prices retreat by, say, 50c? If so, you can already go ahead and mitigate this risk and use a very attractive collar. The Summer 2022 strip is trading at $3.97 as of Friday afternoon. A floor could be set at $3.45, with the sold call at $4.96 (mid). That is an amazing value, given summer strips in gas usually carry put-skew, not call-skew. The trade gives up 50c to the downside and allows for almost $1 in upside participation. These types of call-skew heavy collars are usually only available for winter-strip options.