USO is up almost 2% today, as commodities outperform while stocks underperform, a clear positioning unwind to start the month of June. I wrote about my thoughts on USO in Friday’s Name That Trade post included below. One data point on the fundamental side that I forgot to mention is the record-high inventory from last week. Here is that commentary from the terrific team at Bespoke:
Crude oil inventories saw a significant build this week, even as traders were expecting a decline of 750K. With an increase of 3 million barrels, crude oil inventories are now once again higher than they have been at any other time since 1983, and you could drive a truck through a gap between actual stockpiles and the average for this time of year.
So I’m still bearish on oil, and today’s bounce offers a nice entry point for a short-biased trade. However, I’ve decided on a much different structure than what I was considering on Friday.
TRADE: USO ($33.17) Sell the July 33.5 / 34.5 Call Spread to Buy the July 32.5 / 31.5 Put Spread, collect a $0.10 credit
-Sell 1 July 33.50 Call at 0.90
-Buy 1 July 34.50 Call for 0.50
-Buy 1 July 32.50 Put for 0.84
-Sell 1 July 31.50 Put at 0.54
Break-Even on July Expiration:
Profits: At expiration, gains of 0.10 between 32.50 and 33.50, with up to 1.10 in profits between 32.50 and 31.50, max profit of 1.10 at 31.50 or below
Losses: At expiration losses of up to 0.90 between 33.60 and 34.50, and max loss of 0.90 at 34.50 or above
Here’s the risk chart for the structure:
As you can see the structure collects the credit if there’s no big movement up or down. It quickly turns profitable with a down move and becomes a quick loser upwards, so a pretty delta intensive trade as opposed to doing just one of the spreads on its own.
Trade Rationale: I went out to July to give myself enough time for USO to break out of its recent 1 month range. The long-term support on USO is around 31, which is why I chose the 31.50 level as the lower end of the put spread. Given the current rangebound nature of USO, I chose a structure where I don’t have to pay premium upfront, but in reality, this trade is going to act like a short USO stock position for the next few weeks.
Name That Trade – Crude Oil Inflection Point $USO, May 31, 2013:
I mentioned the developing wedge in both the SPX and crude oil in this morning’s macro wrap. Crude oil is especially interesting because the WTI contract has developed a long-term wedge, but the European Brent crude contract has a slightly different pattern, dominated by a very important short-term support line that has been tested on multiple occasions in May:
Today is basically the 5th test of that support level, and the more times a support or resistance level is tested, the weaker it gets. If that 101 level in Brent crude does break in the next week, I expect a much larger move lower from there.
There is no good, liquid ETF to play Brent crude, but the USO ETF is designed to follow the WTI front-month contract (and is poorly structure, so has a natural bleed to it as well). Brent and WTI have a 81% correlation over the last year. The 1 year chart of USO:
The 31 level in USO is the key area of support (trading around 33 right now). Here are a few structures that look interesting to play for a move back to the level (doing nothing myself):
Buy the June22nd expiry 32 / 31 put spread for $0.21. This is the trade that is in anticipation of an imminent break in support.
Sell the July 33 / 35 call spread at $0.75. This trade would fit a view that a rapid break lower is not necessarily imminent, but oil’s upside over the next couple months is capped, and a range trade continues.
I’m not going to initiate a new trade on USO today as I am already a bit exposed to that theme (namely, my FXC trade), but it’s an interesting setup regardless.