(John Kemp is a Reuters market analyst. The views expressed are his own)
By John Kemp
Crude oil prices and calendar spreads have started to soften in recent trading sessions, in what is likely to be profit-taking after hedge funds amassed a record bullish position in the petroleum complex.
Hedge funds and other money managers had accumulated a record net long position in the five largest futures and options contracts linked to crude and fuels by Nov. 7, according to regulatory and exchange data.
Fund managers held a net long position equivalent to 1,085 million barrels of crude, gasoline and heating oil, up from 305 million at the end of June, and beating the previous peak of 1,025 million set in February.
Long positions in crude and fuels have been boosted to a record 1,295 million barrels while shorts have been cut to just 211 million, the lowest since April .
Hedge funds hold record or near-record bullish positions in Brent, U.S. gasoline, U.S. heating oil and European gasoil, only in WTI is their positioning is still well below previous highs.
There may be fundamental reasons to believe prices will head higher, but the lopsided hedge-fund positioning and concentration of long positions has increased the risk of a price reversal in the short term.
Brent futures prices for delivery in January 2018 hit a high on Nov. 6 but have since stalled and started to drift lower. Brent calendar spreads for the first half of 2018 also peaked on Nov. 6 and have since eased sharply.
Brent prices, which have rallied faster than WTI since the middle of August, have been hit harder in recent trading sessions, which is consistent with profit-taking.
Hedge funds held a record net long position of 543 million barrels in Brent on Nov. 7. By contrast, the net long position in WTI was just 382 million barrels, well below the record of 444 million barrels set in February.
Fund managers held almost 11 long positions in Brent for every short position, but just 4.5 long positions for every short in WTI, a sign that Brent had become far more stretched than its U.S. counterpart.
Positioning in U.S. gasoline and heating oil was also at or close to multi-year highs. The net long position in heating oil hit a record 70 million barrels on Nov. 7. Gasoline stood at a near-record 90 million barrels.
With so many long positions already established by last week, and few short ones left to cover, the rise in petroleum prices was at risk of running out of momentum and falling prey to a correction, which is what seems to have happened.
The balance of risks has clearly shifted towards the downside in the near term, particularly if fund managers try to realize some profits and reduce their risk exposure before the end of the financial year.
In the medium term, the cyclical recovery in oil markets should support a continued rise in prices and spreads, and put a higher floor under the market, even if it is hit by a wave of long liquidation.