Nowhere to Go But Up: ETF Investors Pile Into Bets on Oil Rally

(Bloomberg) -- For weeks, market watchers have wondered who, exactly, has been betting on oil’s rebound amid the worst price crash in history.

The answer is sitting on a 3,000-acre farm in Macon, Missouri.

Adam Masten, a freight broker who also grows corn and soybeans, has no formal training in trading oil. But when he started reading headlines this month about the market’s historic plunge, he figured a crash of that magnitude couldn’t last forever. So he pulled up his TD Ameritrade account and spent $2000 buying options on two bullish exchange-traded funds, betting that oil would go up.

“I had never traded oil before and I don’t like to put my money to work until I read about it,” he said. “So I’ve been reading about how demand is so low and supply is so high. I’ve even read about how if there’s no storage capacity, producers would pay people to take it off their hands.” But he didn’t think oil could stay that low, he said.

In fact, oil hadn’t found its bottom yet. Futures in New York came crashing down Monday, falling below $0 a barrel for the first time ever and closing at an unprecedented negative $37.63.

Masten, along with other individual investors, represents just a small part of the recent spike in retail interest looking for that bottom. Whether Monday’s crash dampens their enthusiasm remains to be seen. But as of last week -- when U.S. oil prices tumbled to what was then an 18-year low -- more than $1 billion flowed into the United States Oil Fund LP, the biggest weekly inflow on record. The ProShares Ultra Bloomberg Crude Oil exchange-traded fund saw its largest single-day increase ever, and net-long positions across a basket of oil ETFs are at the highest since at least 2016.

“There’s been an explosion in the ETF space for oil. That, to me, is an indication of genuine interest for opportunities from the retail community,” said Don Casturo, chief investment officer of Quantix Commodities and a former commodities executive at Goldman Sachs Group Inc.

On Monday, before oil futures in New York went negative, USO announced it would sell 4 billion new shares “as soon as practicable,” according to an exchange filing.

Oil Rebound?

The frenzy for oil ETFs has already made its mark on the futures market. Many traders have attributed sharp gyrations in oil futures to the USO’s monthly roll -- when the fund sells the nearest contract and buys second-month futures. The move deepened the market’s contango, a pricing structure where the contracts in the near-term are cheaper than those further out.

“One way to put this into perspective is that, of the five biggest trading days ever in oil, four of them occurred in the last month or so,” said John Love, chief executive of United States Commodity Funds LLC, which runs the USO fund. “There are some people who think oil prices are low and won’t stay here forever. That’s driving it.”

The $4.3 billion USO product, which accounted for about 25% of all outstanding contracts in the most-traded West Texas Intermediate crude futures, said on Thursday that it will alter some of its positions, citing market and regulatory conditions. The shift would mean that the ETF, which normally holds West Texas Intermediate crude futures in the nearest month, will now move 20% of its contracts to the second-traded month.

The fund saw record daily inflows of a little over $552 million on Friday, taking its total for last week to more than $1.6 billion, more than double the previous weekly figure.

While Love declined to specify the regulatory conditions that prompted the change, he said that the firm is “cognizant” of its responsibilities to markets, especially when it holds such significant positions. He said the shift came after discussions with various bodies including regulatory and exchanges.

Roll Period

Traders are quick to point out that buying an oil ETF, especially when the market is in deep contango, results in money being lost during a roll period. Love said that he gets a lot of questions about that, but it wasn’t a primary factor when considering the change. He added that he’s been surprised investors weren’t piling into its other product, the USL, which is an ETF tracking 12 months and would eliminate some of the pain from a steep contango.

Meanwhile, over at ProShares, the firm has also seen strong inflows -- year to date up $1.76 billion -- into its UCO ETF, which is twice leveraged. Instead of rolling every month like USO, it rolls every other month into two months out. The next roll will be in June.

According to Simeon Hyman, global investment strategist at ProShares, the twice leverage product is a good way to find more leverage with less capital, an important part of constructing a portfolio. They’ve also seen more interest in its K-1 free, unlevered crude ETF, though its assets are much smaller.

Up 9%

As for Masten, the oil bets he made earlier this month were about 20% down last week. As of Monday, after the worst price crash in history, he was up more than 9% as his call options became more profitable. He estimates that if oil goes back to $40, he will have doubled his money. If it goes back to $50, he could triple it, depending on timing.

In the meantime, he’s starting to behave more and more like an oil trader: diving into statistics and logging into the U.S. government’s weekly petroleum status report to evaluate at supply and demand changes.

“I was probably a little early, but as demand comes back, so should USO,” he said.

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