Commodities Retrace on Bullish Government Announcements

Commodity and equity markets rose sharply yesterday as the governments of leading industrialized nations pledged to support the struggling global financial system. Metals and energies in particular rose firmly, with November WTI crude oil pushing back above the $80 level to its current level above $83.00. Helping the recent bullish turn is the unequivocal statement by several of the more hawkish members of Opec (Iran, Venezuela and Algeria) to request for a cut in production at the cartel's emergency meeting next month in Vienna. Several Opec members have argued that the world is currently oversupplied by as much as 0.5m barrels per day.

Yesterday's sharp move higher served to increase implied volatility during Asian trading. While the move was quite convincing from the bullish perspective, doubts remain over the economic stability of large consumer nations. Focus is now on the extent to which the recent financial turmoil has damaged commodity demand for the near-term. Thus, the rally may be short-lived and downside producer hedges remain in the spotlight. Using Average Price Options, the November through December WTI $80/60 put spread strip is trading around $4.25. That's max exposure of $4,250 per month with a total payout of $31,500 should both months settle below $60. The trade can be made costless by selling the $90 call in the same tenor. This hedge would provide $40,000 of downside protection with no premium at risk below $90.

Singapore Fuel Oil hedgers looking to protect their downside can combine the above strategy with the sale of the 180 Fuel Oil Swaps in the WTI/Fuel Oil crack, currently trading around $19.00.

Singapore, 08:30

Financial markets recover - a sigh of relief

In a quasi-holiday (Columbus Day), crude oil markets followed the equities market higher, with volatility easing in tandem. Crude volatility eased much less than other financial markets and a follow-on Tuesday would indicate even lower levels.

For those using 3-way strategies (selling net options), there may still be time to capture good premium. Inventory hedge strategies for November include the 65-75 put spread versus the 96 call for zero cost. A move down due to bearish stats Wed would benefit from the decrease in prices and potential for further volatility easing.

We expect the US Treasury to firmly step in and buy US bank equities. This will prompt a follow-on rally in the DJIA after a huge 10% plus up day Monday.