NYMEX: WTI Crude Oil (
CL1!
), COMEX: Micro Gold Futures (
MGC1!
)
Over the weekend, military conflict in Gaza between Israel and Palestine shocked the world. I condemn violence against civilians and pray for the victims and their families.
In the following paragraphs, I will discuss how the prices of strategically important commodities, namely gold and crude oil, might respond to the eruption of a global crisis.
Firstly, let’s look back into the recent past for those crises arising to a global scale. In the last five years, the world has witnessed three major crises of very different natures:
• US-China Trade Conflict: from January 2018 to January 2020, the world’s two largest economies imposed import duties to each other in a series of escalating actions and retaliations. A major event occurred on September 18, 2018, where President Trump added 10% tariff on nearly all Chinese-made products. The US-China trade conflict forever altered the global supply chain, with its impact being felt till today.
• Covid-19, the most severe pandemic in a century, from its outbreak in January 2020 to 2021. A big event that sparked market fear occurred on February 2, 2020, where the US imposed travel restrictions on incoming air passengers.
• Russia-Ukraine Conflict: the first military conflict in Europe since World War II, from February 14, 2022, till now.
Secondly, let’s measure how gold and WTI crude oil responded to these crises. For my analysis, I denote the day before Event Day as T0, where we may find last market prices before the impact hit. Event Day will be T+1, and then 1-week after (T+7), 1-month after (1M), 3-month after (3M), all the way through 1-year after (1Y). Here are what I found:
US-China Trade Conflict
• Gold spot price (T0) = $1,201.90 per Troy Ounce
• Price changes by time: -0.1% (T+1), +0.1% (T+7), +2.3% (1M), +3.3% (3M), +8.6% (6M), +11.6% (9M), +25.0% (1Y)
• Comment: Trade tension between US and China could push the global economy into a recession. Gold, a safe-haven asset, saw its market value growing 25% in a year.
• WTI crude oil spot price (T0) = $69.86 per barrel
• Price changes by time: +1.2% (T+1), +6.3% (T+7), +4.3% (1M), -27.7% (3M), -14.2% (6M), -24.6% (9M), -8.4% (1Y)
• Comment: High tariff raised the price consumers had to pay, hence reducing demand. Crude was down 28% three months after the all-in tariff was imposed.
Covid Pandemic
• Gold spot price (T0) = $1,574.75 per Troy Ounce
• Price changes by time: -1.0% (T+1), -0.1% (T+7), +2.6% (1M), +8.5% (3M), +24.4% (6M), +21.2% (9M), +16.6% (1Y)
• Comment: We saw the biggest stock market selloff in March 2020. Gold price was down initially as stock traders needed to raise money and meet margin calls. However, a flight to safety eventually took place, and gold was up 24% in six months.
• WTI crude oil spot price (T0) = $53.09 per barrel
• Price changes by time: -5.0% (T+1), -11.9% (T+7), -77.1% (1M), -61.4% (3M), -23.1% (6M), -31.1% (9M), +0.9% (1Y)
• Comment: Rapid Covid outbreaks stroke fear. Lockdowns put global activities to a pause. The pandemic wiped out oil demand, with WTI falling 80% in a month. April 20, 2020 made history as oil price of the expiring contract went below zero. As storage cost more than selling price, traders were willing to pay others to take away the crude for free.
Russia-Ukraine Conflict
• Gold spot price (T0) = $1,854.60 per Troy Ounce
• Price changes by time: -2.5% (T+1), -2.5% (T+7), +6.5% (1M), -1.8% (3M), -2.8% (6M), -5.0% (9M), +5.0% (1Y)
• WTI crude oil spot price (T0) = $91.25 per barrel
• Price changes by time: +4.7% (T+1), +5.3% (T+7), +30.7% (1M), +12.90 (3M), +1.1% (6M), +0.6% (9M), -17.2% (1Y)
• Comment: A major military conflict in Europe significantly raised the global risk level. Gold, the safe-haven asset, and crude oil, an energy commodity critically important in wartime, both went up in the first month, by 6.5% and 30.7%, respectively.
• However, the impact was short-lived. On March 16, 2022, the Fed begin hiking interest rates, which has become the driving force in global market. Impact from Russia-Ukraine became a secondary factor and sat in the back burner.
To sum up the above examples, I observe that gold prices usually go up in the aftermath of a global crisis. Crude oil has a mixed bag of reactions. If a crisis results in economic recession and a consequential reduction in oil demand, oil prices would go down. However, in the case of a major war, oil price would go up due to its strategic importance.
Review: Event-driven Strategy focusing on Global Crises
In June 2022, I introduced a three-factor pricing model for commodities futures:
Commodities Futures Price = Intrinsic Value + Market Sentiment + Crisis Premium
Intrinsic Value is the baseline cash price of the underlying commodities, determined by available supply, demand, inventory, shipping costs, and factors affecting these variables.
Market Sentiment indicates if investors are bullish or bearish. Whether speculative investors place more money on the long side or the short side affects the price of a futures contract. Market sentiment could be either positive or negative, resulting in a price premium or a discount of the intrinsic value.
The new Crisis Premium factor captures “Event Shock” during a global geopolitical crisis.
Previous trade example:
Russia and Ukraine together accounted for 28% of global wheat export. Wheat price shot up by 75% following the start of the conflict. I designed a Long Strangle options strategy on CBOT Wheat futures, and simultaneously bought out-of-the-money (OTM) call and put options. A “risk-on” outcome could push wheat price higher, making the calls more valuable, where a “risk-off” outcome would pull wheat price back down, making the puts in-the-money (ITM).
Trading Opportunities with Micro Gold
Since the September FOMC meeting, gold prices suffered a 6.3% drawdown, sending the futures price from $1,969 to $1,845. Friday settlement price was nearly 9% below the yearly high.
On the one hand, high-interest money market funds beat out non-interest-yielding gold investment; on the other hand, strong dollar raised the cost of gold purchase by foreign investors. As a result, gold prices have been under pressure.
However, my analysis illustrates that gold prices could rise in response to geopolitical conflicts. Since its founding, Israel had five major wars with its Arab neighbors. We do not know whether this time it would be contained as a regional conflict or spark a chain reaction of a global war. By the intensity of how it started, it doesn’t seem like a short one.
To express a view of rising gold prices, we could consider a long position in COMEX Micro Gold Futures (
MGC
). The December contract (MGCZ3) was settled at $1,845. Each contract has a notional value of 10 troy ounces, or $18,450 at market price. CME Group requires an initial margin of $780 per contract.
Hypothetically, if gold futures go back up to $2020, its yearly high, the $175 ($2020-$1845) price increase would translate into $1,750 for a long futures position. If gold price goes down instead, each dollar of decline would result in a loss of $10 per contract.
Alternatively, we could consider the newly launched Micro Gold Options. A Long Strangle Options Strategy, where simultaneously buying OTM calls or puts, could be deployed if we expect a big move in gold price, but not certain of its direction.
Trading Opportunities with WTI Crude Oil
Since June, WTI crude oil first staged a nearly 40% rise, from $67 going to $93. However, it has seen a 9% drawdown since the Fed meeting on September 20th.
A major military conflict in the Middle East, the world’s most important oil producing region, threatens to interrupt oil supply and push up oil price. If the conflict is escalated to involve major oil exporting nations, the situation could be dire.
To express a view of rising crude price, we could consider a long position in NYMEX WTI Futures (
CL
). The December contract (CLZ3) was settled at $83.18. Each contract has a notional value of 1,000 barrels, or $83,180 at market price. CME Group requires an initial margin of $6,186 per contract.
Hypothetically, if WTI futures go up above $100, which we saw from February to July 2022 in the first months of the Russia-Ukraine conflict, the $17 price increase would translate into $17,000 for a long futures position. If crude oil price goes down instead, each dollar of decline would result in a loss of $1000 per contract.
Similarly, the newly launched Micro WTI Options could express a view that a big move in oil price is expected, without knowing its direction.
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 www.tradingview.com/cme/
CL1!
), COMEX: Micro Gold Futures (
MGC1!
) Over the weekend, military conflict in Gaza between Israel and Palestine shocked the world. I condemn violence against civilians and pray for the victims and their families.
In the following paragraphs, I will discuss how the prices of strategically important commodities, namely gold and crude oil, might respond to the eruption of a global crisis.
Firstly, let’s look back into the recent past for those crises arising to a global scale. In the last five years, the world has witnessed three major crises of very different natures:
• US-China Trade Conflict: from January 2018 to January 2020, the world’s two largest economies imposed import duties to each other in a series of escalating actions and retaliations. A major event occurred on September 18, 2018, where President Trump added 10% tariff on nearly all Chinese-made products. The US-China trade conflict forever altered the global supply chain, with its impact being felt till today.
• Covid-19, the most severe pandemic in a century, from its outbreak in January 2020 to 2021. A big event that sparked market fear occurred on February 2, 2020, where the US imposed travel restrictions on incoming air passengers.
• Russia-Ukraine Conflict: the first military conflict in Europe since World War II, from February 14, 2022, till now.
Secondly, let’s measure how gold and WTI crude oil responded to these crises. For my analysis, I denote the day before Event Day as T0, where we may find last market prices before the impact hit. Event Day will be T+1, and then 1-week after (T+7), 1-month after (1M), 3-month after (3M), all the way through 1-year after (1Y). Here are what I found:
US-China Trade Conflict
• Gold spot price (T0) = $1,201.90 per Troy Ounce
• Price changes by time: -0.1% (T+1), +0.1% (T+7), +2.3% (1M), +3.3% (3M), +8.6% (6M), +11.6% (9M), +25.0% (1Y)
• Comment: Trade tension between US and China could push the global economy into a recession. Gold, a safe-haven asset, saw its market value growing 25% in a year.
• WTI crude oil spot price (T0) = $69.86 per barrel
• Price changes by time: +1.2% (T+1), +6.3% (T+7), +4.3% (1M), -27.7% (3M), -14.2% (6M), -24.6% (9M), -8.4% (1Y)
• Comment: High tariff raised the price consumers had to pay, hence reducing demand. Crude was down 28% three months after the all-in tariff was imposed.
Covid Pandemic
• Gold spot price (T0) = $1,574.75 per Troy Ounce
• Price changes by time: -1.0% (T+1), -0.1% (T+7), +2.6% (1M), +8.5% (3M), +24.4% (6M), +21.2% (9M), +16.6% (1Y)
• Comment: We saw the biggest stock market selloff in March 2020. Gold price was down initially as stock traders needed to raise money and meet margin calls. However, a flight to safety eventually took place, and gold was up 24% in six months.
• WTI crude oil spot price (T0) = $53.09 per barrel
• Price changes by time: -5.0% (T+1), -11.9% (T+7), -77.1% (1M), -61.4% (3M), -23.1% (6M), -31.1% (9M), +0.9% (1Y)
• Comment: Rapid Covid outbreaks stroke fear. Lockdowns put global activities to a pause. The pandemic wiped out oil demand, with WTI falling 80% in a month. April 20, 2020 made history as oil price of the expiring contract went below zero. As storage cost more than selling price, traders were willing to pay others to take away the crude for free.
Russia-Ukraine Conflict
• Gold spot price (T0) = $1,854.60 per Troy Ounce
• Price changes by time: -2.5% (T+1), -2.5% (T+7), +6.5% (1M), -1.8% (3M), -2.8% (6M), -5.0% (9M), +5.0% (1Y)
• WTI crude oil spot price (T0) = $91.25 per barrel
• Price changes by time: +4.7% (T+1), +5.3% (T+7), +30.7% (1M), +12.90 (3M), +1.1% (6M), +0.6% (9M), -17.2% (1Y)
• Comment: A major military conflict in Europe significantly raised the global risk level. Gold, the safe-haven asset, and crude oil, an energy commodity critically important in wartime, both went up in the first month, by 6.5% and 30.7%, respectively.
• However, the impact was short-lived. On March 16, 2022, the Fed begin hiking interest rates, which has become the driving force in global market. Impact from Russia-Ukraine became a secondary factor and sat in the back burner.
To sum up the above examples, I observe that gold prices usually go up in the aftermath of a global crisis. Crude oil has a mixed bag of reactions. If a crisis results in economic recession and a consequential reduction in oil demand, oil prices would go down. However, in the case of a major war, oil price would go up due to its strategic importance.
Review: Event-driven Strategy focusing on Global Crises
In June 2022, I introduced a three-factor pricing model for commodities futures:
Commodities Futures Price = Intrinsic Value + Market Sentiment + Crisis Premium
Intrinsic Value is the baseline cash price of the underlying commodities, determined by available supply, demand, inventory, shipping costs, and factors affecting these variables.
Market Sentiment indicates if investors are bullish or bearish. Whether speculative investors place more money on the long side or the short side affects the price of a futures contract. Market sentiment could be either positive or negative, resulting in a price premium or a discount of the intrinsic value.
The new Crisis Premium factor captures “Event Shock” during a global geopolitical crisis.
Previous trade example:
Russia and Ukraine together accounted for 28% of global wheat export. Wheat price shot up by 75% following the start of the conflict. I designed a Long Strangle options strategy on CBOT Wheat futures, and simultaneously bought out-of-the-money (OTM) call and put options. A “risk-on” outcome could push wheat price higher, making the calls more valuable, where a “risk-off” outcome would pull wheat price back down, making the puts in-the-money (ITM).
Trading Opportunities with Micro Gold
Since the September FOMC meeting, gold prices suffered a 6.3% drawdown, sending the futures price from $1,969 to $1,845. Friday settlement price was nearly 9% below the yearly high.
On the one hand, high-interest money market funds beat out non-interest-yielding gold investment; on the other hand, strong dollar raised the cost of gold purchase by foreign investors. As a result, gold prices have been under pressure.
However, my analysis illustrates that gold prices could rise in response to geopolitical conflicts. Since its founding, Israel had five major wars with its Arab neighbors. We do not know whether this time it would be contained as a regional conflict or spark a chain reaction of a global war. By the intensity of how it started, it doesn’t seem like a short one.
To express a view of rising gold prices, we could consider a long position in COMEX Micro Gold Futures (
MGC
). The December contract (MGCZ3) was settled at $1,845. Each contract has a notional value of 10 troy ounces, or $18,450 at market price. CME Group requires an initial margin of $780 per contract. Hypothetically, if gold futures go back up to $2020, its yearly high, the $175 ($2020-$1845) price increase would translate into $1,750 for a long futures position. If gold price goes down instead, each dollar of decline would result in a loss of $10 per contract.
Alternatively, we could consider the newly launched Micro Gold Options. A Long Strangle Options Strategy, where simultaneously buying OTM calls or puts, could be deployed if we expect a big move in gold price, but not certain of its direction.
Trading Opportunities with WTI Crude Oil
Since June, WTI crude oil first staged a nearly 40% rise, from $67 going to $93. However, it has seen a 9% drawdown since the Fed meeting on September 20th.
A major military conflict in the Middle East, the world’s most important oil producing region, threatens to interrupt oil supply and push up oil price. If the conflict is escalated to involve major oil exporting nations, the situation could be dire.
To express a view of rising crude price, we could consider a long position in NYMEX WTI Futures (
CL
). The December contract (CLZ3) was settled at $83.18. Each contract has a notional value of 1,000 barrels, or $83,180 at market price. CME Group requires an initial margin of $6,186 per contract. Hypothetically, if WTI futures go up above $100, which we saw from February to July 2022 in the first months of the Russia-Ukraine conflict, the $17 price increase would translate into $17,000 for a long futures position. If crude oil price goes down instead, each dollar of decline would result in a loss of $1000 per contract.
Similarly, the newly launched Micro WTI Options could express a view that a big move in oil price is expected, without knowing its direction.
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 www.tradingview.com/cme/
Jim W. Huang, CFA
jimwenhuang@gmail.com
jimwenhuang@gmail.com
