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Crude Oil Trading – How & When to Trade Oil ?
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What is Crude Oil?
Crude oil, also known as petroleum, is a liquid found in the Earth and it is made of hydrocarbons, organic compounds, and tiny amounts of metal. There are many types of crude produced around the world and the quality characteristics are reflected in the value. The most important characteristic is the sulfur content, which can be defined as sweet or sour, and density ranges from heavy to light. The higher priced crudes are usually light (lower density) and sweet (low sulfur amounts). It is less expensive to produce energy products, such as gasoline and diesel, using a light sweet crude oil. These grades are wanted more since they can be processed with refineries requiring less energy.
Types of Crude Oil
Crude oil is often referred to as a single homogenous substance, but there are many types of oil; differing in its consistency and density, depending on how and where it is extracted. There are over 160 types of crude oil traded on the market, but it is Brent Crude and WTI (West Texas Intermediate) that serve as the foremost oil benchmarks in the global markets.
- Brent Crude
An important oil benchmark, Brent Crude refers to oil that comes from fields in the North Sea and includes Brent and Forties blends, and Oseberg and Ekofisk. Brent is light and sweet oil that is easy to transport. It is ideal for refining diesel, gasoline and middle distillates. Brent is the most popular crude benchmark, with over 60% of crude contracts in the international markets referenced to it. Brent is mostly refined in Northwest Europe and it is the primary oil type in Europe and Africa.Brent is traded on the ICE EUROPE exchange.
On the other hand, WTI refers to oil taken from wells in the United States and sent to Oklahoma by pipeline. It is mostly referred to as US crude and is expensive to ship around the globe. It is very light and very sweet, and especially ideal for gasoline refining. It is a common belief that WTI is higher quality crude and it is always priced at a premium compared to Brent. WTI is the benchmark of all US oil and it is traded on the NYMEX exchange.
Understanding the Crude Oil Market
As the world’s primary source of energy, crude oil is a highly demanded, highly traded and very liquid commodity. When trading crude, however, it is important to look at the factors that impact its supply and demand.
Crude Oil Supply
The Organization of the Petroleum Exporting Countries (OPEC) is a cartel of 14 major oil-producing nations that seek to manage the supply of the commodity in order to control its prices. OPEC meets periodically and they may resolve to boost or cut production. The minutes of the meetings are closely followed by oil watchers around the world because they impact current and future prices directly. A production boost would pressure prices lower, while a cut in production will provide tailwinds for oil prices.
- Major Crude Reports
The US inventory numbers is a key metric for oil price watchers. As a major consumer of oil, higher inventories will mean less demand from the international markets, and this will pressure the prices lower. Lower inventories, on the other hand, will push prices higher. Another major report is rig count. Rising active rigs would imply higher supplies in the future and this will put pressure on crude oil prices, while lower rig counts would imply supply concerns, which will consequently push prices higher.
- Political Factors
Political stability is a major issue in the oil markets. Political instability or wars in oil-producing nations will raise supply concerns and will likely push prices higher.
- Natural Disasters
These are essentially exogenous shocks that may affect major oil infrastructures around the world. For instance, if a hurricane hits a key refinery, prices will jump higher as supply is affected.
Crude Oil Demand
- Global Economic Performance
The major consumers of crude oil are the US, China and Europe. Improved economic conditions in these regions can fuel higher demand and consequently, higher oil prices. An economic recession, on the other hand, will provide headwinds for oil prices, even without a change in overall supply.
- Alternative Energy
The world is actively seeking to move away from over dependence on fossil fuels as a primary source of energy. Cars, in particular, are becoming more and more fuel efficient, while electric cars are also picking up in terms of popularity. If this trend continues aggressively, oil prices will be pressured lower due to decreased demand.
Crude Oil Trading
The volatility of crude oil prices makes the commodity an attractive asset for traders and investors to speculate on. After analysing the above factors, you can trade crude oil in the futures and options markets where you can enter Buy/Call contracts if you anticipate higher prices and Sell/Put contracts if you expect prices to go down. There are also various ETNs and ETFs available, such as United States 12-Month Oil (USL) and Energy Select Sector SPDR ETF (XLE) that offer exposure to the exciting oil markets. Another route would be to trade stocks of companies involved in the oil industry, whether it is exploration, refining or marketing. You can also trade oil as a CFD, which allows you speculate on the price movement of the commodity without having to buy any contract. Trading oil as a CFD comes with exciting advantages, such as leveraged trading, diverse trading options, liquidity and lower associated trading costs.
How to Trade Oil?
Trading crude oil requires a solid strategy that will help you to take advantage of the lucrative opportunities that the ‘black gold’ offers. Unlike most financial assets, trading crude oil requires a comprehensive grasp of the fundamental factors discussed above. The price of oil is very sensitive to news; thus, it is important to track all news that impacts on the supply and demand of the commodity. This may be news about major oil companies, oil-producing regions as well as OPEC meetings. Because oil prices fluctuate wildly, a solid technical strategy should be in place to help pick out optimal trade entry points as well as price targets. Using technical analysis also helps identify key price levels that may offer good risk/reward opportunities. It is also important to track the US dollar value. Oil is denominated in the US dollar (USD) in the international markets. Consequently, when the USD strengthens, oil prices tend to go down; and when the USD weakens, oil prices will usually trend higher.
Crude Oil Trading Main FAQs
Why should I trade crude oil?
The crude oil market is a volatile commodity trading market, and that’s never been more true than it is now. Of course the volatility can be translated into profits by discerning traders, which is one of the best reasons to recommend crude oil trading. The market is also extremely liquid and one of the largest commodity markets in the world. With crude oil being a part of every economy it offers a unique opportunity to profit from nearly any market condition.
Should I trade Brent crude or WTI crude?
There are two primary sources of oil traded in the markets, and those are the Brent crude that originates from the North Atlantic, and West Texas Intermediate (WTI) crude that originates in the Permian Basin in the U.S. Both are considered high grades of oil, and both enjoy large global trading volumes. Until 2010 the price of both remained basically the same, but since then WTI crude has traded at a discount due to the growing U.S. production of oil. Another difference is in the demand for each, with Brent demand coming primarily from Europe, and to a lesser extent Asia, and WTI crude demand coming from the U.S. Traders can profit from either.
What is the best strategy for trading crude oil?
Any strategy for trading crude oil will begin with a fundamental analysis of the market to understand the current, underlying supply and demand dynamics of the market. Once the trader understands this they will be able to implement a technical analysis framework that will allow them to profit from the gyrations in the market. Any number of approaches can be used, from breakout strategies in consolidating, sideways markets to trend following approaches when there is a clear direction to the market.