Event-Driven Strategy using WTI Weekly Options

27 de mai.

NYMEX: WTI Futures ( CL1!) and WTI Weekly Options (LO5)
OPEC+, the coalition of the world’s leading oil producers, will convene on June 2nd to decide production policy for the second half of the year. The powerful oil cartel consists of 13 OPEC members and 9 nonmember participants, and together produces about 59% of global oil production. This amounted to 48 million barrels per day (mn b/d) in 2022, estimated by the US Energy Information Administration (EIA).

Many analysts expect OPEC+ to continue the voluntary cut of 2.2 mn b/d, due to expire at the end of June. This voluntary cut, introduced in November 2023, adds to 3.6 mn b/d of production cut that have reduced the members’ crude output by about 5.8 mn b/d, or about 5% of global supply, since November 2022. I consider the move an attempt to shore up prices against higher US oil production and an uncertain economic outlook in China.

OPEC+ meeting is a significant event in the global crude oil market. We could liken its importance to that of the Federal Reserve meetings for equities and bonds. The group’s decision could tilt the balance of supply and demand one way or the other.

Here are three possible outcomes:
• No change: To renew existing cuts of 2.2 mn b/d through the end of the year.
• Additional cuts. This would reduce global crude oil supply.
• Ease of cuts. This would release more oil to the global market.

The oil market may stay calm if the OPEC+ decision conforms to investor expectations of no change. A surprise announcement of additional cuts would likely send oil prices skyrocketing. But any pullback from current cuts could sink oil prices down.

This provides a good setting for event-driven trading strategies.

Monitoring Crude Oil Market Sentiment Real Time
For a trading strategy to work, the trader needs to understand the market sentiment ahead of the actual event. While analysts give out opinions, it is the investors who put money in their mouth. Therefore, for unbiased decision making, we should look into trading data.

The CME Group OPEC Watch Tool is a great analytical tool for crude oil traders. It uses NYMEX WTI crude oil option prices to calculate the probabilities of certain outcomes from the nearest weekly and monthly options that expire around the OPEC meeting. In essence, it uses actual trading data, and go the extra mile to transform it into useful insights. This valuable tool is free and can be accessed via CME Group website.

The title chart includes a snapshot of CME Group OPEC Watch Tool. As of May 26th:
• OPEC Watch Tool expects a 79.1% probability of no change;
• There is a 18.8% probability of ease of cuts:
• Additional cuts remain a remote probability, at 2.2%.

I would like to point out that the market often exhibits overly pessimistic or overly optimistic sentiment. OPEC Watch Tool shows the collective wisdom of crude oil options traders. However, the trades are not scientific forecast. Market sentiment could change very rapidly. With this in mind, we need to closely monitor it with real-time trading data.

If, through independent analysis, a trader establishes an opinion very different to what the market suggested, he or she may express it with a trade position and wait for the market to correct its faulty assumptions.

Trading with NYMEX WTI Weekly Options
We could consolidate the three possible OPEC+ decisions into two:
• Within Expectation. No changes.
• Exceeding Expectation. More cuts or less cuts.

Investors expect OPEC+ to maintain its current cuts. If that turns out to be the case, oil prices may not move much following the announcement.

If a trader hosts this view, how could he or she turn it into a trade strategy? The trader could consider selling short-dated out-of-the-money (OTM) WTI crude oil options.

The July WTI futures contract (CLN4) settled at $77.80 a barrel last Friday. Selling OTC strikes on WTI weekly options would enable the trader to collect an upfront premium. The first Friday after the OPEC+ announcement is June 7th. The weekly options (LO1M4) will last only 12 days before its expiration.

How do we select options strikes to sell? There are really no rules of thumbs. For illustration purposes, let us pick an OTC call strike approximately $5 above current market price, and a put strike about $5 below.
• Last Friday, the 82.75 call strike settled at 17 cents. Each WTI weekly option contract has a notional value of 1,000 barrels. Therefore, the trader would collect $170 premium for selling 1 call.
• The $72.75 put strike settled at 29 cents. The trader would get $290 for selling 1 put.
• If the trader sells 1 call and 1 put, he or she could collect $460 for just 12 days.

Words of warning for options sellers:
• CME Group requires options sellers to deposit $6,001 margin for each July contract as the time of writing. Therefore, this strategy requires an investment of $12,002 for both call and put.
• If OPEC+ acts as expected and the oil market stays calm, the trader would get the margin deposit back when the options expire worthless.
• However, if oil prices move up above the call strike, the trader could incur a loss, potentially wiping out all the margin deposit, and probably more.
• If oil prices drop below the put strike, the trader would also experience a loss.

If the trader holds an opposite view, he or she could buy the OTC call or put options, depending on which direction the trader is leaning towards. For a small upfront premium, the trader could establish a position on crude oil, and potentially collect a big payout if OPEC+ changes heart.

For those who are uncertain of which way OPEC+ would go, but are convinced that they would change courses, traders could buy both OTC calls and OTC puts at the same time. This is an example of options strangle strategy.

Happy Trading.

Disclaimers
*Trade ideas cited above are for illustration only, as an integral part of a case study to demonstrate the fundamental concepts in risk management under the market scenarios being discussed. They shall not be construed as investment recommendations or advice. Nor are they used to promote any specific products, or services.

CME Real-time Market Data help identify trading set-ups and express my market views. If you have futures in your trading portfolio, you can check out on CME Group data plans available that suit your trading needs tradingview.com/cme/