Put Options and Futures: Two Strategies to Profit as Oil Drops Below $50 a Barrel
The energy sector was dismal in 2014 and it is looking like we could see more of the same for this year. If you are long on oil, you may want to read this, as oil prices could move lower and there are two strategies you can consider to profit from their drop: put options and futures.
Currently, we have the excessive supply overriding the declining demand as the global economy struggles along. China just announced its gross domestic product (GDP) growth would fall to seven percent this year; however, I think the real figure is likely already below seven percent, as there’s some fudging of the numbers. The eurozone could dwindle into another recession or see flat growth, and Russia is clearly heading for another recession in 2015, as long as President Putin continues to refuse to conform to global demands.
The lackluster demand will continue to pressure oil prices.
On the supply end, there’s the massive flow of shale oil that will ultimately help to make the country independent of OPEC (Organization of the Petroleum Exporting Countries) oil, but will pressure oil prices in the foreseeable future.
OPEC is refusing to cut production, especially its largest member, Saudi Arabia. This is likely in an attempt to try to force the U.S. to cut its shale production and send oil prices higher. We are already beginning to hear about capital expenditure cuts by oil companies in the country.
In addition, non-OPEC oil producers Russia and Iraq have announced their intentions to increase oil exports, which will place further pressure on the price of oil. Of course, these two countries need the money and they have abundant oil reserves, so they care little about oil prices at this time.
The chart of West Texas Intermediate (WTI) crude oil spot prices below shows a dangerous decline to $50.87 on Monday morning, a five-and-a-half-year low. Recall when oil prices hung at around $70.00 and there was the feeling it would hold at that level. Of course, the downward pressure on the chart continued and oil prices subsequently broke $60.00 and then $50.00, reaching $47.93 as the markets closed yesterday (the first time it’s been below $48.00 since April 2009). We are now faced with a real possibility of oil prices moving even lower, based on my technical analysis. The higher-priced Brent oil from the North Sea has also declined, reaching $50.88 yesterday at close (the lowest it’s been since April 2009).
Chart courtesy of www.StockCharts.com
As we move forward this year, I see little support for oil unless the global economy can reverse and expand. It doesn’t look that way at this time, so I’d expect oil prices to falter.
I would not be a buyer at this time. However, a decline to the $40.00 range may make it more interesting to play the long side for speculators; albeit, the long-term chart shows very weak oil prices are possible.
If investors play the trend, there appears to be more downside risk at this time. There are two possible strategies investors could consider: an example to play the downside could be via put options on an oil-based exchange-traded fund, whereas more experienced traders could consider playing the downward pressure on oil prices via the futures market.