It's time to start re-thinking your attitude to trading the oil market

WHAT a difference a year makes. With crude oil sinking below $60 a barrel on Friday for the first time since mid-May, it seems incredible that it was only 12 months ago that oil hit a record high of $147 a barrel, fuelling speculation among industry players that it could reach $250. <br /><br />Oil prices had been recovering steadily in 2009, rising above $73 a barrel at the end of June, from as low as $30 earlier this year. But as rampant economic uncertainty depressed investor optimism, the market has dropped more than $10 from the year&rsquo;s high. <br /><br />Adding to the bearish sentiment was the announcement this week from US regulator the Commodity Futures Trading Commission that it was considering tighter controls on excessive speculation in the commodity markets. <br /><br />And while the latest report from the International Energy Agency (IEA) wasn&rsquo;t negative &ndash; it is predicting that oil consumption will recover in 2010, assuming the economy doesn&rsquo;t get worse &ndash; its forecast that 2009 consumption will be lower than 2008, limiting any positive impact its optimism might have had on the oil price.<br /><br />All this would seem to suggest that spread betters should be considering going short on crude oil until the signs of a recovery are more established and Chinese growth is back on track &ndash; on that score, traders will be closely watching as it reports second quarter GDP growth and June industrial output figures on Thursday.&nbsp; <br /><strong><br />EXCESSIVE INVENTORIES</strong><br />However, some analysts remain positive on the black gold, expecting prices to steadily move back towards the high 60s/low 70s over the course of the third quarter.<br /><br />&ldquo;We expect global demand to continue to improve gradually and excessive inventories to be reduced, as supplies stay compressed due to Opec&rsquo;s price defensive policy,&rdquo; write analysts from Barclays Capital. They forecast West Texas Intermediate (WTI) crude hitting $85 by the end of 2010 with a long-term forecast of $137 per barrel. <br /><br />&ldquo;In our view, the second quarter has offered the first encouraging signs of where the crude oil balance might be heading,&rdquo; it said in an analysts&rsquo; note. <br /><br />&ldquo;Particularly, the combination of continued hefty demand declines and signs of stabilisation in the US total oil inventory overhang suggest that even a moderate improvement in demand will likely translate into a progressive erosion of excessive inventories.&rdquo; <br /><br />Falling stock supply in the face of growing demand will provide added support to the oil price as we move towards the end of 2009, and if you agree with Barclays Capital&rsquo;s analysts, it could worth being slightly contrarian and go long on oil from the current price. <br /><br />Both UBS and Bank of America Securities-Merrill Lynch (BAS-ML) commodity analysts also are more positive on the outlook for crude oil, raising their 2009 and 2010 forecasts.<br /><br />BAS-ML analysts have raised their forecast for the 2009 Brent crude oil from $52 to $59. The hike is even more substantial for 2010 with WTI seen at $75 a barrel instead of $62. The reasons behind their improved forecasts are a weaker US dollar, a significant improvement in global liquidity conditions and a slightly tighter-than-expected global oil market balance.<br /><strong><br />WEAK FUNDAMENTALS</strong><br />While their opinion is that oil market fundamentals are likely to remain weak in the near-term due to global demand for oil and oil-based product remaining weaks, over the medium-term they see oil heading much higher as fiscal and monetary stimuli feed through to final demand. <br /><br />&ldquo;We see significant upside pressure building on global energy demand as world economic growth gets back on track,&rdquo; says BAS-ML. &ldquo;Also, global industrial production is at unsustainably low levels, and finished goods inventories will have to be replenished at some point. Thus, as we head into the second half of 2010, we see a firm rebound in global oil demand led by emerging markets.&rdquo;<br /><br />While oil is unlikely to reach last year&rsquo;s historic highs for a number of years to come and the market&rsquo;s fundamentals still don&rsquo;t suggest a sharp jump in the price, spread betters could make the most of the retracement and buy on the current dip. At some point, the global recovery will push oil prices higher. And if you are a positional trader with a longer-term outlook, now is the time to start taking a view.