Will OPEC send oil prices surging, or crashing by 15%?
In December's Organisation of the Petroleum Exporting Countries (OPEC) meeting in Vienna, its 14 nations and non-members like Russia agreed to lower their collective oil production by an additional 500,000 barrels per day (on top of the 1.2 million barrels per day agreed last year) during the first quarter of 2020.
While oil prices initially moved higher on this announcement, it has created a mixed reaction in the markets with oil production reaching a critical juncture which could send oil prices surging, or crashing by 15%! Let's analyse the situation in more detail.
OPEC+ production cuts: The story so far
At the G20 summit in Buenos Aires in December 2018, OPEC and Russia (dubbed OPEC+) both agreed to cut 1 million barrels of oil per day from the market, in an attempt to stimulate oil prices. The planned cuts started at the beginning of 2019 and were to last six months. As supply was drastically limited, the price of WTI crude oil, an international benchmark, rose significantly - almost 60% higher from the beginning of the year to its 2019 high of $66.60 made on April 23.
Since then, the price of WTI crude oil has fallen nearly 25% as fears of slowing global growth gripped markets. It's one reason why OPEC+, in its December meeting, decided to increase production cuts by an extra 500,000 barrels a day during the first quarter of 2020. As there is now likely to less supply of oil in the market, the theory is that the price of oil should rise which it did do so, briefly.
There are a few problems with these round of production cuts. The first is that they have only been agreed up until March 2020. The second is the fact that over the past year many countries have not abided by the agreed quotas, forcing Saudi Arabia to make deeper production cuts than they planned.
However, Bank of America Merrill Lynch believe the agreed cuts and a US-China trade deal could see oil prices soar higher. The only risk is that countries, like Iraq, may not stick to the agreed production cut quotas. If no US-China trade deal is in sight, this could cause oil prices to drop further on a weakening global economic environment.
How to Trade the Volatility of WTI Crude Oil
The long-term monthly chart of WTI crude oil highlights the historical volatility of the market:
Source: Admiral Markets MetaTrader 4, WTI, Monthly - Data range: from 24 December 2006 to 9 December 2019, accessed on 9 December 2019 at 4:41 pm GMT. Please note: Past performance is not a reliable indicator of future results.
With Admiral Markets you can speculate on the price direction of WTI crude oil by using a CFD (Contract for Difference) which allows traders to go long and short on the market.
One technical trading indicator that is useful in such volatile markets are Bollinger Bands. This indicator helps to identify the state, or context, of the market as well as provide levels of support and resistance where the price direction of a market often turns.
To plot the Bollinger Band indicator on your chart, select Insert -> Indicators -> Trend -> Bollinger Bands, from the top tab in your MetaTrader platform.
Source: Admiral Markets MetaTrader 4, WTI, Monthly - Data range: from 31 August 2014 to 9 December 2019, accessed on 9 December 2019 at 5:41 pm GMT. Please note: Past performance is not a reliable indicator of future results.
In the above weekly chart of WTI crude oil, the Bollinger Bands consist of three green lines - the upper band, the lower band and the middle 20-period moving average. The upper and lower bands are two standard deviations away from the price. This is essentially a measurement of volatility.
The further they are away from each other and price the higher the volatility of the market. Conversely, the closer they are to each other and to price the lower the volatility of the market. While there are many different Bollinger Band strategies a trader could use, they use these fundamental principles to derive the following, well-known Bollinger Band rules:
- If the bands come together the market is in a consolidation.
- If the bands widen or move apart, the market is in a trend.
Let's take a look at the current weekly chart of WTI crude oil again:
Source: Admiral Markets MetaTrader 4, WTI, Monthly - Data range: from 31 August 2014 to 9 December 2019, accessed on 9 December 2019 at 6:41 pm GMT. Please note: Past performance is not a reliable indicator of future results.
In the weekly price chart above it is clear to see the current Bollinger Bands are narrowing and coming together. This tells us the market is in a consolidation. Traders can then use this knowledge to their advantage to look at range based trading setups, or adjust the target levels on their trades to fit within a low volatility market condition.
Viewing the timeframe below, the daily chart, also confirms the range based market condition in WTI crude oil:
Source: Admiral Markets MetaTrader 4, WTI, Daily - Data range: from 14 November 2018 to 9 December 2019, accessed on 9 December 2019 at 7:41 pm GMT. Please note: Past performance is not a reliable indicator of future results.
By viewing the daily chart we can now see the levels of support and resistance the market is ranging in between. These are shown by the two blue horizontal lines on the chart above. From where price started in early December around the OPEC meeting, a push to the top horizontal resistance line represents a near 15% rise higher. Equally, a fall back down to the bottom horizontal support line represents a near 15% drop.
So which way will price go? While no one can predict exactly what will happen next, they can trade on the probability of one event happening over another. Currently, the price of WTI crude oil is going up and traders will be looking to build long positions to the top of the consolidation around $63.30.
Risk management is key and using a stop loss can help limit a loss in case the market goes the other way. As the price of WTI crude oil has been rising in recent months, it has created an ascending support line, otherwise known as a trend line, as shown below:
Source: Admiral Markets MetaTrader 4, WTI, Daily - Data range: from 14 November 2018 to 9 December 2019, accessed on 9 December 2019 at 8:41 pm GMT. Please note: Past performance is not a reliable indicator of future results.
If price breaks below this support line, sellers may take control of the market and the price of WTI crude oil back down the lower horizontal support line of the consolidation around $50.45.
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