Monday, September 21st, 2020

How to Profit from the Oil Glut


Oil has risen since it bottomed out in the $20 range but that may not last long. There is too much oil and not enough consumers. Market Watch says that $35 oil lies ahead and that that could put the brakes on the current market rally.

Oil is doing its best to keep its head above $40 a barrel, but no one is resting easy after that visit to bear country on Monday. Equities are faring even worse, from Europe to stock futures.

Oil stays in the headlights, as our call of the day looks at the potential next leg down for crude. $35 a barrel anyone?

This may not be the time to buy oil stocks but maybe this is right time for puts on big oil stocks or on crude oil futures.

Options Trading and Oil

Years ago we wrote about trading oil options. Years have passed and oil prices have risen and fallen but the principles are the same.

Succeeding in options trading in the coming months and years may well depend upon correctly reading where the price of oil is going. Specifically trading oil options will mean correctly reading oil as priced in dollars. Profitably trading oil options will also have to do with identifying the oil industry companies that are likely to capitalize of higher oil prices and those that will lose out.

Reading the dollar commonly means watching what the Federal Reserve is doing. With the USA generally dissatisfied about slow job growth (see election results) the Fed has enacted another stimulus measure destined to pump money into the economy, hopefully create jobs, and drive down the value of the US dollar.

In short you need to look at supply and demand for oil and the Forex market for the dollar. All indicators are that oil will head downwards. That makes puts on oil futures or big oil stocks the preferred approach.

Time for Puts?

We wrote about puts on oil about a year after our trading oil options article.

As industrial production falls so does oil consumption. Options traders use puts on oil in order to leverage their investments and to limit investment risk. Oil futures have fallen after a period of high volatility. This is consistent with a high degree of market speculation. It would appear that the general consensus of traders is that oil will continue to fall. Thus puts on oil continue to outnumber calls. The International Energy Agency has stepped into the picture with a promise to help coordinate the release of petroleum from stock piles. The price of oil is currently falling because supply exceeds demand. With a release of energy reserves supply will more greatly exceed demand and the price of oil will likely fall farther making today’s puts on oil profitable.

It would appear that history is repeating itself. The value of puts is that you do not need to take the risk of huge losses if you buy or sell oil stocks or oil futures. Your risk is limited to the premium that you pay for the put contract. How to profit from the oil glut is probably to look at puts in the oil sector or in crude oil futures.

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