Why Oil Prices Will Keep Falling

As you will be well aware if you are a regular reader of my musings here and elsewhere, I generally favor a contrarian trading style. That comes from years spent in the interbank forex market, where the intraday nature of most desks’ trading meant that trades became very crowded very quickly. Once a move got underway and gained momentum, it wasn’t long before nearly everyone was positioned the same way, a situation that skewed the risk/reward against that direction. If everyone is short, there are few left to sell, and even a small move up can induce a panicked rush for the exit…a classic short squeeze. And the same could happen the other way around too if everyone was a buyer.

Oil, though, is not forex.

In a forex trade, when you are short one currency, you are inevitably long the currency on the other side of the trade. If you buy USD/JPY, say, you go long dollars, but you simultaneously go short the yen that you bought those dollars with. That means that, at some point, you have to cover that short and square up. With oil, though, one side of the trade is a commodity…it can be used and consumed, and it is subject to supply and demand fluctuations. If economic conditions are bad and demand is falling, say, suppliers still need to sell their production, and will do so at ever lower levels rather than leave themselves with a big storage problem.

That means that moves can be sustained longer, and because of current conditions, we…


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