Expert Insight: Tough Times on the Spot Market

Low oil prices: Economic bonanza or deflationary contraction?

By 
Walter Zimmermann, United ICAP

RBOB crude oil chart

NEW YORK -- For the 31 years 1983 through 2014, the average preseason RBOB rally has been a 57% increase in spot contract value from a Q4 low to a Q2 high. However, the trend over these past 30 years has been for more and more of an average preseason rally to already be discounted in back month gasoline contract premiums.

This is as it should be. In an efficient market, you should not be able to make a ton of money simply buying May RBOB in the previous December and just holding that contract until expiry. There should not be such low-hanging fruit. An efficient market should discount most of an average preseason rally in advance.

Every year for the past 20 years or so it seems like making money in the gasoline preseason rally gets more and more difficult. It seems like every year the fruit hangs a little bit higher in the tree. That has especially been the case so far this year.

From the 1.2265 spot RBOB low of Jan. 13, 2015. a 57% gain in value would target a 1.9255 high. As I write this on Sunday evening Feb. 22, the April contract is already trading 1.8525 and the April contract becomes spot in only five trading days on March 2.

Another concern are the gasoline cracks. The RBOB-to-Brent crack looks like it has already peaked. And almost all of the upside in the RBOB cracks since their late October lows has been due to crude oil falling faster than RBOB. And while a mid-February RBOB-crack peak may seem a bit early, the gasoline cracks ran out of upside momentum in mid-February of 2014.

Yet another concern is the glacially slow pace of the advance in the May-minus-December RBOB spread. I have to wonder whether any remaining upside in this spread will be because the December contract starts falling faster than the May contract.

And of course there is still the million-barrel-per-day of excess crude-oil production worldwide. And the list of crude-oil producers willing to cut their own production is still zero. Given that fact, it is completely understandable why no one is in any rush to pay up for gasoline.

One last point. I just do not buy the “lower oil prices as economic bonanza” story. History shows no record of a collapse in a key commodity ever being an economic bonanza. On the contrary, there are several occasions where the price collapse in a key commodity group has helped to spark a severe deflationary economic contraction.