Hedgers Turn to Spreads as Volatility Increases

Crude oil prices fell yesterday as traders digested solid confirmation of the widespread damage inflicted by the recent Gulf of Mexico Hurricanes. The data points to short-term losses in refinery output and production, while market players have taken a larger look at demand destruction on a consumer level. Of particular interest was the refinery utilization number, dropping to 66.7% which is below the 69.8% level hit in the aftermath of Hurricanes Katrina and Rita. As a result, US gasoline stocks suffered predictable losses, falling 5.9m barrels to their lowest level in more than 18 years. At the same time, US retail gasoline demand, as reported by Mastercard Advsors, fell by more than 5% in the week ending September 1st.

Market volatility continues to raise caution for hedgers and traders. Moves of between $5-$10 can occur in any given trading session, thus entering the market with swaps and futures can be extremely dangerous. While option premiums have become increasingly inflated in the recent volatility, call and put spreads remain an inexpensive strategy to cover risk. Using Asian options, the WTI Q4 $95/80 producer put spread strip provides $15 of downside protection and is currently trading around $2.40. For $2,400 of total risk per month, the hedger gains $37,800 of Q4 protection.

Singapore, 09:00