Traders yesterday turned their focus to announcements from Saudi Arabia, the world's largest oil producer, that the country would begin cutting production and exports to customers in the US and Europe. Opec is desperate to put a floor in the volatile and declining oil price, hence the large cut, to the tune of about 5%. However, the price jump is seen by many as an opportunity to lock in higher prices as the market continues to trend towards $50. The underlying trend lower is supported by weak demand fundamentals in the current economic turmoil.
The $7 rally in WTI crude yesterday highlights the need for hedging strategies with limited loss potential- the market is too volatile to simply enter the market by selling or buying swaps. Cheap option strategies are available which provide unlimited gains with only limited loss potential. Using Average Price Options, the December $55/70 put spread is currently trading around $5.00. That's $5,000 of maximum loss potential (yesterday's rally would have resulted in more than $7,000 of losses by selling swaps) with a potential payout of $10,000. For unlimited downside protection, producer hedgers can buy the December $60 put for only about $2.80. That's $2,800 of maximum loss potential against unlimited gains should crude oil continue lower in the current economic turmoil.
Singapore, 08:00
Tuesday, November 4, 2008
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