- Traders are pulling out of USO despite being up 11.6% over the past week
- Trend may be due to doubts that production cuts to further boost oil prices will come to pass
- Since USO needs to roll contracts upon expiry, the ETF will be subject to contango issues
Oil futures surged 9.5% last week and followed that up with a 5.7% gain Monday. Brent futures, the global benchmark contract, topped $40 per barrel for the first time since December. All of that would seem to be good news for the United States Oil Fund (NYSEArca: USO), which tracks West Texas Intermediate crude oil futures.
USO is higher by 11.6% over the past week, but traders are pulling out of the ETF, perhaps due to doubts that production cuts to further boost oil prices will come to pass.
Previously, large oil exporters like Saudi Arabia and Russia have proposed to freeze output near January levels if other countries also followed suit. Oil producers will meet to go over potential freezes in March.
Qatar, Russia, Saudi Arabia and Venezuela have been in discussions to hold output steady at January levels, but only if other producers followed suit. There is also talk that Iraq, also a member of the Organization of Petroleum Exporting Countries (OPEC), could pare production. Without the help of production cuts, prices and oil equities remain vulnerable.
“Investors in the biggest exchange-traded fund that tracks oil prices last week withdrew the most money in five months as crude rebounded. The U.S. Oil Fund had a weekly outflow of $125.2 million, the biggest since Oct. 2, according to data compiled by Bloomberg. West Texas Intermediate crude settled at $35.92 on March 4, the highest level since January,” reports Moming Zhou for Bloomberg.
USO holds WTI futures contracts in the nearby month and rolls its cash into the next month’s contracts before being forced to take physical delivery.
Since USO needs to roll contracts upon expiry, the ETF will be subject to contango issues – near month March 2016 contracts trade at $29.12 while next month April 2016 contracts trade at $31.22, according to CME Group. Consequently, more sophisticated traders may short USO and go long later-dated futures to take advantage of the arbitrage opportunity when the fund rolls its contracts. [Positioning for an Oil ETF Rebound? Watch For Contango.]
Some observers also question the integrity of the countries as some have been known to deviate from the agreements – Russia failed to respect a similar agreement with OPEC producers in the 1990s. Due to the surge in popularity, the oil-related ETFs now hold a huge stake in the energy markets. For instance, USO now makes up a quarter of all contracts for April delivery on the New York Mercantile Exchange.
United States Oil Fund
The opinions and forecasts expressed herein are solely those of Tom Lydon, and may not actually come to pass. Information on this site should not be used or construed as an offer to sell, a solicitation of an offer to buy, or a recommendation for any product.