Analysis-Oil derivatives indicate traders expect Middle East disruption to be temporary

Oil Markets Signal Brief Impact from Middle East Tensions

By Mehnaz Yasmin and Utkarsh Shetti

March 6 (Reuters) – Recent activity in oil options and futures suggests that traders expect the latest conflict in the Middle East to be short-lived. Many are positioning themselves to benefit from a potential drop in oil prices following the initial surge.

Options and futures markets are often among the first to reflect whether market participants view a supply disruption as temporary or more enduring, offering chances to capitalize on rapid price changes.

The joint Israel-U.S. strike on Iran has caused significant upheaval in energy markets. Insurance premiums for war risks have soared, shipping costs have reached new highs, and congestion at the Strait of Hormuz has disrupted oil shipments, leaving hundreds of vessels stranded. As a result, oil prices reached their highest levels in years last Friday.

However, market indicators point to expectations of a short-term shock. According to LSEG data, the 30-day at-the-money implied volatility for Brent crude climbed by 17.5 points to 68% over the past week through Tuesday. In contrast, the 60- and 90-day measures increased by only 5.9 and 2.8 percentage points, respectively.

“We’re witnessing the distinction between a logistical issue and a fundamental one unfold in real time,” said Brian E. Kinsella, a former energy expert at Goldman Sachs, during a discussion at the Reuters Global Markets Forum.

He added, “The market is leaning toward this being a logistical problem, and I believe that’s the correct interpretation.”

The Brent futures curve supports this outlook. The gap between the nearest Brent contract and the six-month contract has widened to about $10—a level of backwardation not seen since the onset of the Russia-Ukraine conflict in 2022. This suggests tight supplies in the near term but implies the disruption may not last.

Meanwhile, the put-to-call ratio for West Texas Intermediate (WTI) options dropped sharply to 0.35 on Monday from Friday’s close, according to CME data, indicating strong interest in bullish call options. The ratio rebounded to 0.56 on Tuesday as traders sought more downside protection.

Call options grant the right, but not the obligation, to purchase a crude futures contract at a predetermined price, while put options allow the holder to sell at a set price.

This ratio compares the volume of bearish put options, which gain from falling prices, to bullish call options, which benefit from rising prices, providing insight into market sentiment.

“Dealers are currently short a significant number of deep out-of-the-money calls, which results in a more negative gamma profile for crude,” explained Rebecca Babin, senior energy trader at CIBC Private Wealth US. This is different from the usual scenario where dealers are long gamma and tend to sell during price rallies.

Gamma measures how much the option’s delta—its sensitivity to the underlying futures price—changes as the market moves.

Long-Term Outlook and Market Positioning

Rebecca Babin noted that much of the 2027 Brent futures strip is still trading below $70 per barrel, indicating that markets are not yet pricing in a lasting change to long-term supply.

She also mentioned that producers have taken advantage of the price rally to hedge future production, which has naturally increased selling pressure on longer-dated volatility.

According to Darrell E. Fletcher, managing director of commodities at Bannockburn Capital Markets, risk premiums remain concentrated at the front of the futures curve, reinforcing the belief that traders view the current disruption as temporary.

Brent Options Activity Surges

Open interest in Brent options dropped sharply in late February before rebounding in early March, suggesting that traders closed positions before reestablishing hedges.

Front-month open interest fell from about 388,000 contracts on February 18 to around 73,000 by February 27, then surged to over 700,000 contracts by March 2 as new positions were opened.

“The open interest data clearly indicates a rapid unwinding of positions rather than a fundamental repricing. The front end is closing trades, while the back end deserves attention,” Kinsella said.

Futures positions show a similar trend, with more than 40% of open interest concentrated in contracts expiring between April and July, and lighter activity further out on the curve, according to CME data.

Reporting by Mehnaz Yasmin and Utkarsh Shetti in Bengaluru. Edited by Ahmad Ghaddar, Alex Lawler, and Liz Hampton.