Funds prepare $2 billion oil market play as supply tightens

Mon Feb 27, 2017 11:14am EST
 
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By Catherine Ngai

NEW YORK (Reuters) - Passive investment funds are poised to shift an estimated $2 billion from far-term to near-term crude futures over the next week, anticipating an energy market rally as a historic OPEC output cut slashes supply.

The switch may foreshadow the end of a global oil glut that built up during a two-year price war.

On Friday - for the first time in six years - a rule in one of the most popular commodity market indices was triggered, requiring funds tracking the index to sell Brent crude futures contracts for December LCOZ7 and to buy contracts for June LCOM7.

The S&P GSCI Enhanced Commodity Index rule aims to ensure that investors are positioned to cash in when oil market fundamentals change - in this case, when supply becomes so tight that the current price of oil becomes higher than the price of oil for delivery many months or years into the future. That structure is called backwardation.

When markets are oversupplied, the opposite is true: It is cheaper to buy crude now than to buy it for delivery later. That structure is called contango.

An S&P bulletin late Friday confirmed the rule had been triggered for Brent contracts. It stipulates that the funds must bring their money forward if the second and third month contract settles at a difference of less than 0.5 percent on the third to the last day of any given trading month.

On Friday, the Brent May contract LCOK7 price settled at $56.31 a barrel, while the June LCOM7 price settled at $56.55 a barrel. That would make the difference about 0.4 percent.

The threshold was not breached for West Texas Intermediate crude.   Continued...

 
Used oil barrels are seen outside a garage in Cuevas del Becerro, near Malaga, southern Spain February 16, 2015. REUTERS/Jon Nazca