Short positions in crude oil have tripled in two months as traders bet the Hormuz crisis is nearing its end.

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As more and more traders bet that the Middle East crisis is about to end and oil prices will turn downward, global crude oil inventories are being depleted at an astonishing speed.

According to reports, position data from exchanges as of June 2 shows that since early April, portfolio managers have continued to increase their short positions in crude oil. Data compiled by energy analyst John Kemp shows that Brent crude oil short positions have increased by about three times from the end of March to early June.

The market generally believes that a ceasefire agreement and diplomatic negotiations will eventually lead to the resumption of normal navigation in the Strait of Hormuz, restoring global crude oil supply to normal. However, in stark contrast to the optimistic expectations of financial markets, the supply-demand balance of the physical crude oil market is tightening rapidly.

Data from the International Energy Agency (IEA) shows that due to the continued disruption in the Strait of Hormuz, about 13 million barrels per day of crude oil supply are interrupted globally. In just March and April, global crude oil inventories decreased by about 250 million barrels, equivalent to a daily consumption of 4 million barrels from inventory buffer.

As inventories continue to decline, the market is faced with a question: If the supply disruption lasts longer than expected, how long can the current inventory buffer support?

Inventory buffer is rapidly disappearing

Compared to the optimistic sentiment in the futures market, the signals released by the spot market are entirely different.

Global crude oil inventories are continuing to decline. Inventory levels in Cushing, USA—the delivery center for WTI crude oil—are approaching the minimum operating range. Meanwhile, offshore floating storage and onshore commercial inventories are also decreasing. In recent years, whenever supply has been disrupted, inventories have acted as market buffers, stabilizing price fluctuations. But as inventories continue to be depleted, this buffering capacity is weakening.

Chevron CEO Mike Wirth previously warned that the "buffers and shock absorbers" in the market are gradually being exhausted, and the market's capacity to absorb supply gaps is obviously weaker than at the start of the crisis. In other words, the reason oil prices haven't risen more sharply at present is largely due to inventory releases. Once inventories decline to critical levels, supply-demand imbalances will be reflected more directly in prices.

Resumption of navigation in Hormuz can't immediately solve the problem

The market’s biggest optimism is that once the Strait of Hormuz resumes normal operations, a large amount of crude oil will once again flow into global markets.

But reality is far more complicated than this imagination. First, shipping companies need to confirm that safety risks have truly been eliminated; second, a large number of tankers need to be redeployed and loaded, which takes time; lastly, transporting oil from the Gulf region to end-users in Asia, Europe, and North America typically requires several weeks of travel.

This means that even if a comprehensive ceasefire is achieved tomorrow, the newly added supply may not reach end markets for several weeks. Meanwhile, the world is entering the peak summer demand season, with refinery operating rates rising and transportation fuel demand increasing. The consumption rate of crude oil itself is at a yearly high. Therefore, there may be a time mismatch between supply recovery and the demand peak.

Oil price upside risks are accumulating

Many institutions believe that the risk most easily overlooked by the market right now is not demand risk, but the supply risk after inventory is exhausted.

ING analysts point out that if supply disruptions continue into the third quarter, with seasonal demand that is strengthening, there is further room for oil prices to rise. More importantly, as inventories continue to decline, the market's sensitivity to supply shocks will continuously increase. Gaps that could previously be absorbed by inventories may in the future translate directly into tightness in the spot market and price surges.

For the crude oil market, the real issue worth attention may no longer be when the Strait of Hormuz resumes navigation, but how long global inventories can sustain. As inventory buffers are gradually exhausted, the "rapid supply recovery" story the market is betting on may face a reality check.

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