The oil price surge following the deadly US airstrike against Iranian general Qassem Suleimani is unlikely to be sustained, commodities-focused hedge fund managers have told Hedgeweek.
The oil price surge following the deadly US airstrike against Iranian general Qassem Suleimani is unlikely to be sustained, commodities-focused hedge fund managers have told Hedgeweek.
Managers running oil trading strategies are keeping close tabs on the unfolding events in the Middle East following the drone strike at Baghdad Airport on Friday.
Brent Crude climbed to more than USD70 a barrel immediately following the killing before falling back, then spiked again briefly early on Wednesday morning following Iran’s retaliatory missile attack on two bases hosting US and other coalition troops in Iraq. But the immediate surge has likely hit its ceiling, with the fresh round of market volatility likely to be short-lived, managers said.
Jean-Louis Le Mee, chief investment officer of London-based Westbeck Capital’s Energy Opportunity Fund, believes the recent move at the front of the oil curve is “probably” capped at USD70 for now, and any move higher would likely require supply losses, adding that CTAs are essentially maximum long on the commodity.
The price rise over the weekend follows the spike seen in September following the attack on Saudi Arabian oil facilities, which then saw a 20 per cent rise – its biggest overnight surge since the first Gulf War – before settling around USD62.
But Elvis Pellumbi, founder and chief investment officer at London-based CF Partners Capital Management, which trades oil, gas and renewables with a long/short event-driven approach, said the start-of-the-year rally in oil markets will likely be reversed, suggesting the market does not currently believe in a shortage-of-oil situation.
“We know for a fact that OPEC has a lot of spare capacity following the decision to reduce production over the last year and a half, and the attack on Saudi last year showed that the impact was very short lived,” Pellumbi told Hedgeweek.
Turning to portfolio positioning, Le Mee believes the back end of the oil curve presents more attractive opportunities for trading.
“Very aggressive US shale hedging for 2020 and 2021, together with tight physical oil markets, now translate into record ‘backwardation’ in Brent,” he said of the gap between the current spot value of oil and futures market prices.
“The positive roll yield is 10 per cent over 12 months and 15 per cent over 24 months – the back end has never been so cheap versus the front. Back end call options are extremely cheap. This is where we have most of our risk.”
He noted that the apparent evacuation of US troops ahead of Iran’s retaliatory strike may still leave room for a de-escalation of the situation. “Oil could lose some risk premium short-term at the front of the curve,” he added.
While General Suleimani’s assassination caught markets off guard, the shape and extent of Iran’s response remains equally unclear. How damaging the next attack will be depends on what Iran will try to achieve, according to Le Mee. “They can decide to once again create a USD5 to USD10 short-term price spike to force Trump into a lessening of sanctions in the run up to the elections. Or they can aim for something more nefarious and permanent to hurt his chances of re-election – USD5 gasoline at the pump in the US would achieve just that.”
More broadly, the global push for reducing carbon emissions, and the structural concerns surrounding fossil fuels, ultimately outweigh the short-term technical considerations in energy markets, Pellumbi believes.
“Most of the flows in securities are passive in my view and again, will reverse,” he added. “There are hardly any generalist investors left in the energy sector and I don’t suspect that higher oil prices for a few weeks will bring them back.”
