Hedging Trump Trade And Cleaning Up An Oil Spill

Summary

Today’s webinar will discuss hedging an escalating trade war and cleaning up the USOU mess.

The odds of a full trade agreement with China are almost zero, but a coin flip between escalation and “delay more tariffs to work on a deal.”

You don’t have to make money back the same way you lost it.

Earlier this week I asked Will President Trump Trade America Into Recession? We will not know the answer for a day or two more. 

Goldman Sachs (GS) supposes there is a roughly an equal chance that there is an escalation of the trade war or a deal to work on things, after the President Trump and Xi meeting. They place almost no chance a full trade deal is in place. I agree with that assessment. 

We need to prepare ourselves for a break in the support levels of the stock market if the trade war indeed escalates.

SPY Puts As a Hedge

With a few percentage points of the Tesla (TSLA) profits I took this week, I am going to hedge the portfolio by buying a few puts on the S&P 500 (SPY). As I showed in the Trump Trade article, there is a big stock market support at $259 on SPY. 

SPY SupportAs such, I am buying a SPY $260 put for February for between $4 and $5. It will only be about a 2-4% position as it is only there for a flash crash. If suddenly this market shoots into the $240s or lower for SPY, then I’ll make a multiple on the position and have cash to invest in cheap stocks.

I don’t want to stretch this out further as I don’t want to pay for time value. If support breaks, I expect it will happen relatively quickly on the volatility and then as we head into another buyback “gray-out” period. 

Cleaning Up An Oil Spill

I hate closing a position that I think should be a winner, but the math is getting hard to overcome on the U.S. Oil 3x ETF (USOU). But I am close to doing just that. 

First though, I have been doing some math on the direction oil is going to go. Here’s a link to the EIA page on Saudi oil imports. They have said they are going to reduce oil exports by 500k barrels per month. Most of that reduction will be to the U.S. Here’s why. 

The refinery that Saudi Arabia owns in Port Arthur can use a little over 600,000 barrels per day of largely Saudi medium crude oil, though it can also take American light sweet and Canadian heavy sour, when running near capacity. 

As recently as October 2017, Saudi imports to the U.S. were as low as 591,000 barrels per day, recently however imports rose to over 1mbd in an effort to offset an oil price rise supposed due to Iranian sanctions. Expect Saudi exports to drop to about 600,000 barrels per day imminently.

Saudi Oil Imports To U.S.

Currently, oil inventories in the U.S. rose to 450 million barrels. With the Permian and other U.S. oil production likely flat for the next several months due to winter and pipeline shortages in the Permian that won’t be alleviated until H2 2019, we can do the simple math. 

500,000bd x 30days/month = 15mb/month of reduction of U.S. inventories. I believe this will last through the winter. So, we should expect U.S. inventories to shrink to about 390-400 million barrels by April.

What will the impact of the Saudi import cut be. We need look no further than the last year-and-a-half. When Saudi Arabia cut imports to the U.S. from over 1.1mbd in May 2017 to 760,000 in March 2018, with touches at 676k, 591k & 667k, oil prices rose from the $40s to the $70s. The level they have recently come down from after increasing oil to the U.S. again and then the Iran sanctions waivers that exceeded expectations.

I think it is likely a repeat occurs through June 2019 as the Permian isn’t able to ramp up before July and the peak driving season will be well on its way. Global demand, even if there is another revision downward, will be at least another million barrels per day higher in 2019 than 2018, and more if there isn’t a wider trade war driven slowdown. 

So, to rescue my USOU position, which is a lesson in why not to use leveraged ETFs for anything other than day trading even if you think your swing trade is good, I am going to buy a few more calls on our favorite Permian oil plays. 

I am adding to Encana (ECA) $10 January 2020 calls , adding a new position in Pioneer Resources (PXD) $150 January 2020 calls and adding shares of Centennial Resource Development (CDEV).

These are not direct investments in oil obviously, but these are top players leveraged to Permian oil. As pipeline capacity opens up in the region, these companies will enjoy further cash flows. The spread between WTI and Permian WTI is about $7 right now, that should dissipate.

It won’t matter if oil is $60 per barrel or $80 per barrel, the companies are already making money and have hedged some of their production forward near $70 per barrel. New hedging and spot sales will certainly be higher than today’s $43 Permian WTI which they are taking a discount on at the moment.

This falls under the category of you don’t have to make your money back the way you lost it. More in today’s webinar.

Disclosure: I am/we are long pxd, cdev, eca.

I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it. I have no business relationship with any company whose stock is mentioned in this article.

Additional disclosure: I own puts on SPY. — I own a Registered Investment Advisor – Bluemound Asset Management, LLC – however, publish separately from that entity for self-directed investors. Any information, opinions, research or thoughts presented are not specific advice as I do not have full knowledge of your circumstances. All investors ought to take special care to consider risk, as all investments carry the potential for loss. Consulting an investment advisor might be in your best interest before proceeding on any trade or investment.

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