(John Kemp is a Reuters market analyst. The views expressed are
* Chart 1: tmsnrt.rs/2mm1HeI
* Chart 2: tmsnrt.rs/2mvnvBA
* Chart 3: tmsnrt.rs/2mlWLGN
* Chart 4: tmsnrt.rs/2mvw1jS
By John Kemp
LONDON, Feb 27 For every buyer of futures and
options there must be a seller. For every long position there
must be a corresponding short position.
Hedge funds and other money managers have purchased a record
number of futures and options contracts linked to Brent and WTI,
betting that prices will rise.
As a group, hedge funds now hold a record net long position
equivalent to 951 million barrels across the three main Brent
and WTI contracts (tmsnrt.rs/2mm1HeI).
Hedge fund long positions outnumber short positions by a
record ratio of 10.3:1 (tmsnrt.rs/2mvnvBA).
With hedge funds almost all long, some other group of
traders must have sold a correspondingly large number of futures
and options contracts, either as a hedge or betting prices will
Since September 2009, the U.S. Commodity Futures Trading
Commission (CFTC) has employed a four-way classification for all
traders with reportable positions in crude oil.
Traders are classed as a producer/merchant/processor/user, a
swap dealer, a money manager, or into a miscellaneous "other
Traders with positions less than 350,000 barrels do not have
to report them but they show up as a residual "non-reporting"
The classification is discussed on the commission's website
("Disaggregated commitments of traders report: explanatory
notes", CFTC, undated).
If a trader's market activities span more than one category,
the commission makes a judgment about their predominant
activity, and all trades are then classed in this category.
Unfortunately, the commission does not disclose how
individual traders are classified, which creates considerable
uncertainty about the composition of the categories.
For example, if a major oil company hedges its inventory as
well as providing price risk management services to customers,
we don't know whether its trades are classified as
producer/merchant/processor/user or as a swap dealer.
On Feb. 21, hedge funds and other money managers held a net
long position in WTI on the New York Mercantile Exchange (NYMEX)
equivalent to 414 million barrels, according to CFTC data.
"Other reporting" traders also held a net long position of
173 million barrels while non-reporting traders were net long by
15 million barrels.
The corresponding short positions were held by
producer/merchant/processor/users, with a net short position of
291 million barrels, and swap dealers, with a net short of 310
As hedge funds have increased their net long positions in
WTI, the majority of the contracts have been sold to them by
swap dealers (tmsnrt.rs/2mlWLGN).
Hedge funds and other money managers have increased their
net long position in WTI by 254 million barrels since early
Swap dealers increased their net short position by 202
million barrels over the same period (with the balance of extra
short positions coming from producer/merchant/processor/users).
Hedge fund positions in WTI are more closely correlated with
swap dealers than with any other category of traders.
The CFTC defines swap dealers as any "entity that deals
primarily in swaps for a commodity and uses the futures markets
to manage or hedge the risk associated with those swaps
According to the commission, "the swap dealer's
counterparties may be speculative traders, like hedge funds, or
traditional commercial clients that are managing risk arising
from their dealings in the physical commodity".
Swap dealers function as market makers and intermediaries
and may assume positions on their own account or act as
intermediaries for other traders.
Swap dealers (or their clients) have been eager sellers of
futures and options linked to WTI because as hedge funds have
accumulated a record position prices have scarcely risen since
Intercontinental Exchange (ICE) employs a similar four-way
classification for trades in its Brent and other commodity
contracts listed in London.
But although ICE employs the same criteria there is no
guarantee that individual classifications by ICE and the CFTC
are the same because the CFTC does not disclose how individual
traders are categorised.
The positioning of traders is very different in Brent, which
may reflect differences in the structure of the market, or
inconsistencies in classification.
On Feb. 21, hedge funds and other money managers held a net
long position in ICE Brent futures and options equivalent to 508
Swap dealers also held a very large net long position
amounting to 428 million barrels in Brent, according to records
published by ICE, which contrasts with their large short
position in WTI.
In Brent, the corresponding short positions all came from
producer/merchant/processor/users with a net short position of
790 million barrels (tmsnrt.rs/2mvw1jS).
Hedge funds have boosted their net long position in Brent by
241 million barrels since Nov. 8, with most of this supplied by
an increase in producer/merchant/processor/user short positions
of 193 million barrels.
Swap dealers have also cut their net long position in Brent
by 66 million barrels since early November, but this has
supplied only a small part of the hedge fund long positions.
Despite the differences between the commitments of traders
in the two markets, hedge fund buyers of Brent have found plenty
of willing sellers, with prices barely changing for the last two
Not much is known about the identity and motivation of the
short sellers, other than that have been willing to sell large
numbers of extra futures and options contracts at Brent and WTI
prices just over $50 per barrel.
Some of them, especially in WTI, are likely to be U.S. shale
oil producers keen to hedge their production for 2017 and 2018
and lock in revenues in case prices slump again.
Some could be hedging inventories, though in theory the
demand for inventory hedging should be declining as crude stocks
Some could be outright shorts with a more bearish view on
the outlook for oil prices than hedge fund managers and willing
to take the other side of the trade.
And some could simply be making a market for their hedge
fund clients by willing to sell futures and options to them on
While we know very little about the identity of the shorts,
their motivations could be crucial, because at some stage the
hedge funds will want to take profits and liquidate some of
their record long position.
At that point, the readiness of the short sellers to buy
back these futures and options will make a big difference to how
that liquidation occurs.
There has been a good two-way market for the last two months
which has kept prices trading in a narrow range despite a large
number of futures and options changing hands.
The critical question is whether that liquidity will remain
high in the months ahead or evaporate, which could lead to
either a spike in prices or a sharp drop when some of the trades
are closed out.
(Editing by David Evans)