Energy Complex Suffers From Price Compression Leading To Breaks Down

By Richard Edwards, Managing Director of HED Capital

Energy prices are moving down. We have seen a series of compressions, all of which have now broken down. The exception remains the compression in Rbob gasoline as it is at a weekly scale and so we cannot tell until Friday’s close whether it too has broken. The others have definitely done so and so the chances are that Rbob will too. The fact that the Rbob signal is at a weekly scale is ominous as a confirmed break down from it would lead to weakness that might last for 3 or 4 months. We assume that you stopped out of Brent long positions for a modest loss and we are now looking for a place to sell various energy contracts short. Aggressive traders could do so now in the US contracts, but rallies back up to the level of these compressions are possible, which would provide a better opportunity:

A break of this weekly-scale compression could do a lot of damage to all energy prices, so it is time to remind you that there is a potential feedback loop here. The biggest producer/exporter of crude remains Saudi Arabia, which was once incapable of spending all the money that it earned from these sales, so it built huge reserves. That situation flipped over in recent decades and Saudi Arabia now needs the money to support its lavish spending. This means that it will not find it so easy to reduce production in its role as ‘swing producer’ to support prices at the low end of the trading range, as it has done for years. Lower prices may in fact even lead to an increase in Saudi production, to maintain revenues. OPEC is notoriously fractious when it comes to co-ordinated production cuts (they all cheat) instead and so there is a chance that we will see a price plunge. It may not happen on this occasion but this feedback loop of lower prices leading to higher production is a lurking presence that will one day arrive in the market – it would not be the first time. Copious new US energy supplies from fracking makes this even more likely.


HED Capital MangementAbout the Author

We at HED examine the interplay of market forces to predict the price movement of many different assets. These forces may be the strong slow pressures that drive multi-year trends or the immediate surges of mood in the trading crowd that push prices up and down over days and weeks. Our methods are built from first principles taken from the physical sciences and use traditional logic combined with modern mathematical tools, some of which were devloped by our friends at parallax financial research We concentrate on interaction, or feedback as it is sometimes known, measure the mood of the crowd using tools of our own devising and read the results. This is behavioural finance using science, not psychology. Our conclusions are often opposed to those of economists and our predictions are predominantly correct.