U.S. Inventory Data Produces Increased Volatility

Energy prices showed marked volatility yesterday as a result of surprising U.S. inventory numbers. Crude stocks saw a build of 9.4m barrels last week, largely as a result of swelling imports. Converesly, petrol inventories provided an equal surprise on the downside, showing a draw of 6.2m barrels, marking the second week in a row of +6m draws. This can be blamed on both a weak refinery margin, where refiners will often choose to forego further production in favour of much-needed maintenance programmes, as well as disruptions caused by the previous tropical storm, Edouard.

Volatility often results in hedgers backing away from the market for fear of incurring added risks to their balance sheet. In fact, a volatile market is just the scenario for choosing options as a proper hedge over futures or swaps. Options provide cheaper protection as well as limited loss, allowing the prudent hedger to concentrate on their actual business and not worry about basis or downside hedging risk. Just such a consumer hedge would be buying the January through December 2009 $130 / 150 call spread for Zero Cost by selling the $105 / 93 put spread in the same tenour. This trade provides $20 of upside protection for every month in 2009 while having only limited risk, from the $105 level down to the $93 strike ($20 of free protection in exchange for $12 of max risk).