/CLX5 short strangle

I just opened a short strangle position on the upcoming month contract of WTI crude oil.

The details of this trade are as follows:

Date Inst. Mark. # L/S Strike C/P Price Δ Days Max profit Comm. Close P/L
1 9/10/2015 /CLX5
(november)
45.63 2 short 35 P 0.18 5 35 $760 $7.42 expired OTM $760
2 short 58 C 0.20 7 $7.42

This is another high probability trade with low deltas.

Trade reasoning

I’ve been eyeballing oil ever since it’s implied volatility spiked, with the massive 25% increase it had in 3 days. I didn’t have the nerves to open a short strangle when the IV was at its peak, but it’s still relatively high, so now was the time.

clx5-iv

I have a 50% profit range with this strangle, the legs are about 25% far. Compared to the last 3 days of August, when /CL rallied 25% in 3 days, this profit range may seem small, but it’s actually pretty large. I think the 25% move was a black swan event, nobody could have foreseen it. I feel sorry for whoever was caught up in it. Market analysts say the move was due to short covering by institutional investors, which may be true partly. I also think there was a large amount of speculation going on, that the supply side of the equation will shift via OPEC and Russia, but they have denied it since then.

clx5-risk-profile

 

I have a bit over a month to go to expiry. This years bottom was at $37, and prior to that, the 2008 bottom was at $33. I doubt it will go down there.

clx5-chart

clx5-option-chain

 

What could happen in this month? Plenty. The oil market is still very volatile, but it doesn’t react to every bit of data, as it has over the last few months. Granted, the oil demand/supply equation is almost infinitely complex, with variable that one can only guess.

Here is the present state of the oil market, as I see it.

On the supply side:

  1. OPEC will not decrease production, despite cries from it’s member states. Cooperation from Russia, in the form of a joint decrease, might solve the supply glut problem, but Russia isn’t decreasing, and the Saudis certainly won’t either.
  2. US supply seems to have started shrinking a bit, at least according to the latest reports by the EIA.
  3. The North Sea oil industry is facing an existential crisis. Low oil prices have forced spending cuts and contraction across the world, but the offshore oil and gas fields in the North Sea are some of the world’s costliest. In the mid term, this will be a problem at present prices, but for now, the North Sea could see its highest level of oil production since 2012, as new projects that were planned years ago finally come online.
  4. US banks will start revaluing loans in the energy sector in September-October, which might mean bad news for marginal producers in shale. Bankruptcies and buyouts could commence.
  5. Asset sales have already started at some oil companies, to raise cash.

On the demand side:

  1. Chinese demand looks to be dropping a bit.
  2. US driving season is over, which means less demand.
  3. Refineries are going into maintenance season, which might cause a bit of crude buildup next month. Refineries ran at 90.9% of capacity last week, down from 92.8% the prior week. During the summer, they were running at 95-96% capacity.

So the oil glut persists. Frankly, at the moment, guessing where oil will be in a month is as simple as flipping a coin. Anybody that has a strong opinion on short term price movements, is full of sh.t.

If you held a gun to my head and demanded an opinion, I would say bearish, because of the movement of oil stocks.

oil-stocks-9-10-2015

Notice how they are continuing their declining trend. It was broken to the downside by the flash crash of August 24, but now, 2 weeks later, they are back in their declining channel.

I’m keeping an eye on oil stocks, since they will be a big play when oil recovers. When will that be? Nobody knows. Legendary investors like Carl Icahn and Warren Buffet have started taking positions in energy stocks though, so they seem to think it’s coming sooner than later.

Anyhow, back to my WTI strangle.

My profit range is nice and wide, so I’m calm and satisfied with this trade. Even if oil shoots out either direction, I have plenty of leverage to adjust the strangle.

Now lets let theta do his job.

Update #1: Options expired OTM for full profit of $760

Both sides of the short strangle expired out of the money as of today, which means I got to pocket all of the premium for this trade.

The market price of CLX5 is $46.76, prices have hardly moved during the holding period of this trade. The max was a bit above $50 this week, but prices quickly retreated. This trade was never in any danger, or did I feel the need to adjust it.

At around the middle of the holding period, I was thinking of rolling my positions in a bit, to increase the premium. I decided against this because oil has can be volatile, and it can easily shoot up or down 10-15% in just a few days. I’d rather play it safe, even if it doesn’t pay as much.

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