Why Oil Could Be Primed For A Huge Short Squeeze

While the oil industry continues to face pricing pressures due to global oversupply, one market metric indicates that there may be reason for optimism for oil prices in the short-term. According to the most recent data from Reuters, hedge funds currently have their largest short exposure to WTI in nearly five years.

Primed for a squeeze
This graph shows the ratio of long-to-short WTI positions by hedge funds and other money managers over the past decade.


The current ratio of 1.6 represents the lowest net long exposure to oil since September of 2010. With this much institutional money currently shorting oil, it’s no wonder that the United States Oil Fund ETF USO is down 32.2 percent in the past three months. However, any uptick in prices in coming weeks could trigger a major short covering scramble that could send prices surging.

Recent history
After peaking at over 14 in summer of 2014, the hedge fund long-short ratio nosedived when oil prices collapsed. In early March, the ratio dipped below 2.0 for the first time since 2010, but that didn’t last long. Within three months of hitting that multi-year low, the ratio had bounced above 4.0, and the price of WTI had surged 21.5 percent.

Now, a little more than two months later, the ratio has recently hit fresh multi-year lows.

Will history repeat itself?
The last time the hedge fund long-short ratio was as low as 1.6 was in early September, 2010. In the six months from September 1, 2010 to March 1, 2011, the price of WTI surged 34.7 percent.

With this much bearish sentiment and positioning in the oil markets right now among institutional investors, it would likely not take much of a catalyst to trigger another short squeeze in oil prices like the one that occurred earlier this year.