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The price of crude oil currently drifts between the Scylla of uncertain physical supply demand balance and the Charybdis of speculative financial derivative products.

Macroeconomic investors in financial products such as oil futures contracts speculate on commodity pricing trends. Because their participation in markets is purely financial, speculators, notably hedge funds, are motivated by a different business strategy than producers and users of physical crude oil. Exploration and Production companies are engaged in the physical activity of exploring for and producing oil and natural gas. Refineries must purchase crude and natural gas to make gasoline and other refined hydrocarbon products.

The recent increase in crude oil prices may have been driven by hedge funds buying net long positions in Brent and WTI derivatives by 7 million barrels to a record 663 million in the week ending April 26, 2016. Crude oil prices have shown a strong correlation with hedge fund positions in WTI in the last 18 months.

Correlation does not equal causation. Hedge fund managers may have been moving into a net long position speculating that a global rebalancing of a current perceived oversupply of crude to a state of equilibrium is occurring. This speculation may have been fueled by comments by Faith Birol, chief of the International Energy Agency (IEA) that … “under normal conditions toward the end of this year, second half of this year but latest 2017, markets will rebalance.”

The reconciliation between the financial and physical product occurs at delivery points agreed upon in standard contracts. The agreed upon delivery point for the West Texas Intermediate (WTI) contract is the intersection of pipelines in the middle of crude oil tank farms in Cushing, Oklahoma.

The recent retracement of crude oil prices may be attributed to physical reality pulling market perception closer to the Charybdis of global storage numbers.

The irony is that perception of global inventory levels are driven by what would otherwise by seen as relatively insignificant observable details in a global industry that consumes close to 100 million barrels of oil a day.

For example, ...