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Relief Package Holds out Hope

03/26/2020 1:04 pm EST


Phil Flynn

Senior Energy Analyst, The PRICE Futures Group

While markets have rebounded on Senate relief package, expect greater volatility to continue, reports Phil Flynn.

How do you spell relief? T-w-o-T-r-i-l-l-i-o-n-D-o-l-l-a-r-s. The Senate passed the much-awaited stimulus bill, and now it is up to the House of Representatives to finish the job.

The anticipation of the bill was enough to give stocks two back to back up days. Yet some business fear that the bill will be too little too late to help them. The market is hunkering down for a weekly jobless claims report that will be the worst on record by a large margin (3,283,00) . There are tears and fears that Coronavirus won't go away quickly.

Still, crude oil and gasoline seemed to defy the fearful fundamentals and instead focused on the potential future demand boost from the Coronavirus relief package. The market also seemed to take solace in the weekly Energy Information Administration (EIA) supply report that was more bullish than expectations. It also showed that U.S. refiners, stung by plunging gasoline demand, moved quickly to cut production of gasoline. Gas production dropped last week by over 1.0 million barrels a day. U.S. gasoline production fell to 8.96 million barrels per day for the week ended May 20, from 9.97 million barrels a day a week earlier. Look for gas production to continue to fall as demand destruction continues.

The market is also looking at stories that the U.S. is pressuring Saudi Arabia to end the ill-advised and economically damaging oil price war. The Wall Street Journal reported, "The U.S. plans to press Saudi Arabia to restrain its scheduled oil production boost by leveraging the kingdom's status as head of the G-20, according to people familiar with the matter. The United States intends to warn Saudi Arabia that the kingdom could also be hurt if the oil-price war destabilizes the Western financial system.”

The U.S. State Department put out a statement that reads as follows, "Secretary of State Michael R. Pompeo spoke yesterday with Saudi Crown Prince Mohammed bin Salman Al Saud. Secretary Pompeo and the Crown Prince expressed their deep concern over COVID-19 and the need for all countries to work together to contain the pandemic. Secretary Pompeo and the Crown Prince focused on the need to maintain stability in global energy markets amid the worldwide response. The Secretary stressed that as a leader of the G20 and an important energy leader, Saudi Arabia has a real opportunity to rise to the occasion and reassure global energy and financial markets when the world faces serious economic uncertainty. The Secretary thanked the Crown Prince for Saudi Arabia's continued partnership in the face of the Iranian regime's destabilizing regional behavior.”

There is no doubt that the Russian and Saudi price war destroyed any shred of credibility they had as the global stabilizer of oil. Instead of acting to soften the economic blow from record demand destruction from the Coronavirus, they let their egos allow the oil market to cause the world more economic pain. They used this crisis to gain more power and market share at the expense of the world community that is facing deaths and economic destruction from this virus. Instead of stabilizing the market, they created a situation where oil market volatility is at an all-time high.

THE EIA confirms the fact that oil volatility is at an all-time high. "Crude oil prices have fallen significantly since the beginning of 2020, largely driven by the economic contraction caused by the 2019 novel Coronavirus disease (COVID-19) and a sudden increase in crude oil supply following the suspension of agreed production cuts among the Organization of the Petroleum Exporting Countries (OPEC) and partner countries. With falling demand and increasing supply, the front-month price of the U.S. benchmark crude oil West Texas Intermediate (WTI) fell from a year-to-date high closing price of $63.27 per barrel on Jan. 6 to a year-to-date low of $20.37 on March 18, the lowest nominal crude oil price since February 2002. Crude oil prices have fallen significantly since the beginning of 2020, largely driven by the economic contraction caused by the 2019 novel Coronavirus disease and a sudden increase in crude oil supply following the suspension of agreed production cuts among OPEC and partner countries.

WTI crude oil prices have also fallen significantly along the futures curve, which charts monthly price settlements for WTI crude oil delivery over the next several years. For example, the WTI price for December 2020 delivery declined from $56.90 on Jan. 2, 2020, to $32.21 as of March 24. In addition to the sharp price decline, the shape of the futures curve has shifted from backwardation—when near-term futures prices are higher than longer-dated ones—to contango, when near-term futures prices are lower than longer-dated ones.

Significant price volatility has accompanied both price declines and price increases. Since 1999, 69% of the time, daily WTI crude oil prices increased or decreased by less than 2% relative to the previous trading day. Daily oil price changes during March 2020 have exceeded 2% 13 times (76% of the month's traded days) as of March 24. For example, the 10.1% decline on March 6 after the OPEC meeting was larger than 99.8% of the daily percentage price decreases since 1999. The 24.6% decline on March 9 and the 24.4% decline on March 18 were the largest and second-largest percent declines, respectively, since at least 1999. On March 10, a series of government announcements indicated that emergency fiscal and monetary policy were likely to be forthcoming in various countries, which contributed to a 10.4% increase in the WTI price, the 12th-largest daily increase since 1999. During other highly volatile time periods, such as the 2008 financial crisis, both large price increases and decreases occurred in quick succession. During the 2008 financial crisis, the largest single-day increase—a 17.8% rise on Sept. 22, 2008—was followed the next day by the largest single-day decrease, a 12% fall on Sept. 23, 2008.

Volatility during the first quarter of 2020 has not been limited to oil markets The recent volatility in oil markets has also coincided with increased volatility in equity markets because the products refined from crude oil are used in many parts of the economy and because the COVID-19-related economic slowdown affects a broad array of commercial activities. This can be measured through implied volatility—an estimate of a security's expected range of near-term price changes—which can be calculated using price movements of financial options and measured by the VIX index for the Standard and Poor's (S&P) 500 index and the OVX index for WTI prices. Implied volatility for both the S&P 500 index and WTI are higher than the levels seen during the 2008 financial crisis, which peaked on November 20, 2008, at 80.9 and on December 11, 2008, at 100.4, respectively, compared with 61.7 for the VIX and 170.9 for the OVX as of March 24. Check out the whole report on EIA.GOV.

Trade strategy may be key to ride out the crazy moves that will come with the headlines so keep in touch with our daily analysis. Makes sure you are getting my Daily Trade Levels! Read Phil’s energy report at Price Futures Group. Twitter: @energyphilflynn | Facebook: Phil Flynn

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