The Commodity Futures Trading Commission (CFTC) is in a bit of a tough spot. Being subject to the federal government shutdown meant shutting down the various Commitment of Traders (COT) reports for all the products listed on the exchange. There are a lot of them. Though the government and therefore the CFTC has reopened, it is going to be some time before they catch up (assuming they can before the next shutdown).

The plan is for two releases per week in chronological order until that gets them up to date. The CFTC restarted last Friday filing its numbers for the penultimate week in 2018, and then yesterday completing last year. Though it still leaves January 2019 unfilled, it’s a start and it does get us the data about how futures markets behaved during December’s tumultuous weeks.

For crude oil futures, money managers threw in the towel then found someone else’s and threw in theirs, too. This class of futures market participant, who before Euro#3 was almost alone in setting WTI’s price, was near record long as late as the second week in July. And while doubts only grew during last summer, they held on until around mid-September.

The big purge started the same time the oil crash did. Whereas MMGR’s were net long 430k contracts in early July 2018, it was still just about 300k long the first week in October. By the first week of December, the aggregate position had collapsed to just 100k. The lowest point was 67k net long two weeks after, and still only 78k to end the year.

It wasn’t just the capitulation, it was the speed at which it happened. Managers haven’t been this unsure about crude since the dark days of late 2015.

The reason for their sudden anxiety and fear is obvious. Out of nowhere (not really; money and economic warnings have been ignored in the media but that doesn’t mean they didn’t occur or that people with an actual skin in the game hadn’t noticed them), crude oil stocks began to rise.

That in itself wasn’t unusual even when they were accumulating. It was the scale of the inventory stocking that suggested “something” was very wrong with the scenario that had through 2017’s inflation hysteria put MMGR’s in Jay Powell’s corner.

The September to November seasonal accumulation was larger than what the market absorbed during the same months in 2015 – by a lot. To review, the entire world economy in the last half of 2015 was being struck by some form of downturn, many places in recession and the US economy itself barely managing to avoid an official declaration. This is not the pattern anyone wants to see physical oil repeat. 

The buildup would’ve been even worse, too, had it not been for somewhat favorable (meaning not too costly) crack spreads. A good amount of increasingly spare crude was distilled into distillates like gasoline and then stored in that form. Gasoline stocks are unnervingly at record highs after the seasonal accumulation in this part of the energy market was unseasonally accelerated.

Oil prices have since rebounded from their Christmas Eve lows. Though the COT reports don’t give us much for January we can infer that MMGR’s were dabbling long again, though probably not overly enthusiastic about wandering too far into the path of this falling knife.

Other factors suggest that fair amount of caution. The crude futures curve, for example, remains steadily into contango despite six weeks of largely higher prices. In fact, the level of contango particularly at the front end of the curve hasn’t budged.

In other words, WTI is up from the recent low despite what appears to be a pretty hostile curve position. This isn’t unusual, even in 2015 there would be short-term rebounds where the shape never came close to going back toward backwardation. But so long as contango remains the dominant futures market feature, oil prices are dead cats more than resurrected phoenixes.

The reason is the same as what is keeping the market in contango. It perceives a large and sustained imbalance. That can be a physical imbalance between supply and demand, and as we know from the last time (2014-15) it isn’t really a supply glut. As far as fundamentals go, the futures market is always aware of how supply is anticipated to increase. Supply is predictable to a far greater degree.

It is projected oil demand that gets re-projected toward the downside, with oil stock accumulation merely confirming the dreaded scenario already suspected. With the curve still in contango, that’s a demand problem plus all the added deficiencies of liquidity difficulties. That’s why the curve has taken this shape favorable to oil accumulation; anyone who has the ability to maintain funding can make arbitrage on the time value of a global downturn.

The fewer there are of those either willing or able, the more misshapen (contango) the futures curve will become and the more it will persist in this upside-down pattern. Eurodollar illiquidity plus bad fundamentals equals the wrong kind of curve.

The implications beyond the energy markets are just as profound. Without WTI Jay Powell has no inflation. Thus, the FOMC throws in the towel in the same way as MMGR’s; from surefire inflation to “muted”, an epic flip flop in the same matter of weeks. The wage thing was always a distraction, an appeal to influencing expectations rather than the object of sound and rational analysis.

Of course, hampering energy prices by contango means it isn’t just officials at the Federal Reserve who will be dealing with the inflation fallout. Mario Draghi’s going to have a much tougher time selling his boom in 2019. Like the Fed, his prospective replacements are substituting their ECB pause.

And that’s just where it all gets started. Why did oil demand suddenly change for the worse? All the world’s central bankers better hope it wasn’t the futures market seeing Germany about to turn deeply red:

Unfortunately for them and us, yeah, that’s almost surely what happened. Global demand right out of the black. 

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