The fluctuations of the Brent market in 2017 have been heavily influenced by the intervention of the OPEC. Nevertheless, price volatility remained the main focus of many market participants, particularly in the first half of the year, quantitative analyst Vito Turitto observes.
The volatility in the first two quarters of 2017 was, on average, 14% higher than in the second half. Dated Brent’s volatility reached its peak at 40% implying that price drops in the physical market have been far more aggressive than in any Brent paper market while the Brent average price option market experienced the highest average volatility among all other derivatives.
Video Transcript
Brent crude oil volatility 2017 review: In like a lion, out like a lamb
By Vito Turitto, manager, quantitative analysis
Welcome to The Snapshot – our series which examines the forces shaping and driving global commodities markets today.
The fluctuations of the Brent market in 2017 have been heavily influenced by the intervention of the OPEC, which has limited its output in order to reduce crude oil inventories and support prices.
The great compliance of OPEC members, to the self-imposed production cuts, has actually produced good results. In fact, over the 2017, the reduced oil supply has pushed down crude stock levels favoring a recovery of the price. Nevertheless, bringing down oil inventories was not easy. In fact, it took almost 6 months for oil prices to show a clear uptrend.
Dated Brent prices traded between $47/b and $55/b for the first two quarters of 2017, but an increase in demand and a tighter supply gradually pushed the market up. Overall, the Dated Brent has gone up by 21.29% and closed the year trading around the $65/b threshold.
Nonetheless, its volatility fell by more than 46% implying that the market has followed a healthy leverage effect process.
The large drop in the fluctuations rate happened in the second part of the year because the gradual but constant price uptrend favored a softening of the volatility and supported a higher degree of market stability.
The leverage effect process, which is an asymmetrical movement between price and volatility, was rather good in 2017 which implies that many option hedging strategies have performed well over the last year.
In particular, it is worth pointing out that the 2017’s overall correlation between Brent swap prices and the Brent implied volatility, extracted from Asian Option premiums, was as robust as negative 0.74, which implies an almost perfect linear relationship between the two factors. The markets that experienced the largest drop in volatility are definitely the options one, where the implied volatility dropped by 41%, and the Dated Brent one, where the realized volatility went down by 48%. It is important to note that the volatility in the first 2 quarters of 2017 was, on average, 14% higher than in the second half of the year but in any case Brent options and the Dated Brent remained the most volatile markets.
The 2017’s average volatility in the Brent option market was as high as 27%, nevertheless, the most violent volatility explosions have been registered in the Dated Brent market, where the monthly fluctuation rate managed to achieve its peak at 40%, which suggests that price drops in the physical market have been far more aggressive than in any Brent derivatives market.
The Brent Frontline swap market has been the most stable one, with an average yearly volatility of just 23%, while the Brent futures market was slightly more volatile.
Overall, the uncertainty surrounding the effectiveness of the OPEC supply cuts, in the first half of the year, resulted in a higher degree of market volatility while in the second half, as soon as crude inventories started to decrease, Brent price volatility stabilized favoring a more solid uptrend.
Until next time on the Snapshot—we’ll be keeping an eye on the markets.