The end of 2018 was ugly and got sloppy in the crude oil market. The price of the energy commodity dropped to its lowest level since June 2017 on December 24 when it hit $42.36 per barrel on the nearby WTI futures contract.
As the daily chart highlights, the price of oil hit its low on Christmas Eve during one of the lowest volume days of 2018 when just over 626,000 contracts changed hands. On an average day, the volume tends to be double that level. A significant move in the price of any futures market to a new high or low on a day when volume is much smaller than the average does not provide technical validation for a continuation of a trend and could signal significant bottoms or tops in a market. As of Friday, January 4, it looked as if the low on Christmas Eve could turn out to be a bottom in the crude oil futures market as the price traded over the $49 per barrel level for the first time since December 18.
The 2018 Christmas Eve low came within 31 cents of the June 2017 bottom at $42.05 which stands as critical technical support in the oil market and could be the level is a line in the sand for a probe of a $30-handle for WTI crude oil. Oil declined on the back of rising U.S. production which reached 11.7 million barrels per day in 2018. Additionally, the U.S. granted exemptions to the sanctions on Iran to eight countries that purchase oil from the theocracy which accelerated selling. At the same time, bearish price action in the stock market, a strong dollar, and an economic slowdown in China on the back of the trade dispute with the U.S. created a perfect bearish storm for the price of oil. The energy commodity fell by almost 45 percent from its early October high to its low on Christmas Eve.
Now that the holiday season has ended, the price of oil has recovered, and there are bullish and bearish factors at play in the oil market as we move forward in 2019. On the bearish front, the trade issues between the U.S. and China and stock market volatility continue to present the potential for risk-off periods in markets where the prices of most assets move to the downside. Moreover, U.S. production continues at record levels.
On the bullish side of the crude oil market as of January 4, the future premium in one-year spreads in the oil futures market declined over the past few weeks moving from $5.51 on the February 2019 versus February 2020 WTI crude oil spread to the $3.31 per barrel level last Friday. The gasoline processing spread rebounded from under $7 in early December to over $8.75 per barrel at the end of last week while the heating oil crack spread bounced from $24.20 in late December to over $26.50 as of January 4. The stabilization in refining spreads is a sign of demand for crude oil. Meanwhile, the Brent-WTI spread moved from under $7 in late December to the $8.80 level at the end of last week. While the differential between the two benchmarks is a function of more U.S. production and less output from OPEC members, it is also a barometer of political risk in the Middle East. On January 2, many news sources reported that Saudi production of crude oil had declined to the lowest level in two years.
Time will tell if the bearish storm in the crude oil market came to an end on Christmas Eve when the low volume provided a clue that the price had overextended on the downside. I will be keeping my eyes on inventory data, processing spreads, term structure, and the Brent-WTI spread over the coming days and weeks as they tend to be compelling factors that lead the price of the energy commodity higher or lower.