Executive summary

Veteran institutional trader Rich Excell reviews two Crude Oil option strategies for managing risk and capturing opportunities in the crude oil market, including:

  • Geopolitical and other factors that may impact the price of oil in 2022
  • Ways to use CME Group QuikStrike tools to help evaluate potential hedging strategies
  • How to use an LO short put spread to finance a bullish long call strategy
  • How to use LO options to hedge a bearish futures position 

The story of 2021, which has continued into this year, has been the move in oil. There are multiple potential catalysts for black gold (oil) this year, so let’s talk through some of the things that may happen and how Crude Oil options could be used to manage risk.  


Intuitively, politicians know that higher oil prices mean higher gas prices, both of which could combine for trouble at the polls. A very quick Google search about whether higher oil prices matter to voters yields a slew of headlines from all major media outlets which suggest voters do in fact care.

The Biden Administration, showing its concern, has acted a couple of different times to stem the tide of higher prices, reaching out to OPEC last fall in a search for more supply and deciding at Thanksgiving time to release oil from the Strategic Petroleum Reserve. In a mid-term election year, we can expect oil prices and politics to be a big theme this year. 


While the unrest in Kazakhstan may seem like troubles in a distant location to many, it is important to note that this country produces about 2% of world oil supply and is a top 5 supplier of oil to the European union. In addition, Kazakhstan has 12% of the world’s uranium resources and is the world’s largest producer.1 Thus, one should expect that the events in the country are going to have an impact on energy prices in the near term.


China is going through its own internal issues, with struggles in the property market at the forefront right now, particularly as the world prepares to focus on the country during the Winter Olympics. The Chinese PMI dipped below the 50 level (but moved back above last month), which is typically viewed as the cut-off between expansion and contraction of the economy. As the largest consumer of most commodities in the world, your outlook and view of the Chinese economy clearly impacts your view of major commodity prices like oil. 


Environment, Social and Governance (ESG) is a major investment theme going through all markets. As a CFA charter holder, I can tell you ESG is a primary focus of the CFA Institute, with a certification specifically on the topic, and more of the CFA charter testing devoted to it. Active and passive managers alike are shifting to the subject. According to the United Nations Principles of Responsible Investing website, more than 50% of global assets under management have some form of ESG mandate. This is important because investors are urging companies to make commitments to achieve carbon neutrality. Even investors in energy companies are pushing toward this and we have seen many (led by European majors) make commitments to carbon neutrality. This has the potential to impact the global supply of energy, not so much in the near term, but in when and how much capital expenditure is going into the exploration and production of energy reserves. 


Putting all this together, we can see that there are potential impacts on both the supply and demand sides of oil. As with any commodity, the price will be impacted by the supply and demand of the product over every time horizon. Using U.S. Department of Energy data that measures world consumption and world supply, I created a custom index in Bloomberg to measure this supply and demand imbalance in percentage terms. We can see that whenever we get more than 2% out of balance (areas I have circled) there is an impact on price. The 2014-2016 bear market for oil was a period when the supply of oil was outstripping demand. Independent oil producers, using the new fracking technology, oversupplied the product. Fast forward to the end of 2020 and all of 2021. Demand levels have returned to pre-COVID levels, yet supply has not kept pace. Perhaps this is due to disruptions in U.S. pipelines, challenges in Middle East shipping lanes, or unrest in countries like Kazakhstan.  

Figure 1: Crude oil supply and demand imbalance

Without giving a forecast for the direction of price, as I will leave that to each of you, I merely want to point out that there is a slew of potential catalysts that could impact supply and demand. It is the imbalance between these that likely will drive the price of oil. Thus, I will walk through two option strategies for either a bullish or bearish view. 

Bullish energy view strategy

What if you are an investor who is weighing the different outputs and takes above?  You know there is an OPEC meeting on February 2, 2022. Your sense is that OPEC is going to do nothing about supply at that time. In addition, in spite of the problems in China, you also feel that ahead of and into the Beijing Winter Olympics (starting February 4), which coincides with the Lunar New Year (February 1), near term demand will remain firm, and as we see above, out of balance. I have drawn a few important technical lines on the front month crude futures (CL) contract. This may help us think about the critical levels in the market. The shorter red line is drawn to identify the highs we saw in the future in 2021. These were the highest levels in several years. In addition, there is an upward-sloping trend line from the COVID 2020 low which has defined the move higher in oil. One could argue that the trend looks higher, and a breach of the 2021 highs will point to levels not seen since 2014, when the fracking over-supply hit the market. This level (in green) comes in about $108.  

Figure 2: February Crude Oil (CLG2) futures contract

Looking specifically at the March 2022 (CLH2) contract, you see that there is support in the zone of $77-80 (horizontal lines). This support is created because it was the previous resistance that the market has moved above. You can lean into this support to create a bullish option strategy. 

Figure 3: March Crude Oil (CLH2) futures contract

While you can take in some premium to reduce the cost of the option you buy, you know you cannot have opened ended downside risk. However, you don’t want to limit your upside either because of the potential air-pocket above last year’s highs. Thus, you can look to sell a put spread to finance buying a call in the March contract. You can strike the upper strike of the put spread squarely in the middle of the support zone ($80-77) and sell the $79 put. However, you know if that support goes, there could be meaningful downside too, and therefore you want to buy the $76 put for protection. Finally, with these proceeds, you reduce the cost of the $92 call you want to buy so the cost of the package is only 0.60.  While this call is 10% out of the money, if you are right and the futures contract can move back to the 2014 levels at $108, there is still plenty of upside in this strategy.

Using QuikStrike’s SpreadBuilder tool, you can build this spread and see where the breakeven levels are and what the expected return would be at various levels in the future:

Figure 4: Short put spread, long call strategy

Bearish energy view strategy

There is another side to the market. This side of the market is much more downbeat. Looking at the slowdown in the Chinese economy impacting other emerging markets and feel that commodity prices have seen their move higher.  In addition, as developed market central banks join their emerging market peers and raise rates, this has historically been a period when commodity prices struggle. Perhaps you also feel that with Russia moving into Kazakhstan to provide assistance, and now have the controlling influence of European energy, in the near term there might be an incentive to put more supply of oil onto the market to quell any anxiety about a loss of control in the region. Finally, because higher energy prices have become a global concern for consumers, governments around the world, led by the U.S., take steps to bring the price back down, whether it be more releases from petroleum reserves, or more mandates to work from home and ease the demand side of the equation.

Using QuikStrike’s Option Info tab, you can see that the current three-month implied volatility is above the last one month’s (20 day) historical volatility. However, you can also see that when the future’s price heads lower, you get a move higher in implied volatility:

Figure 5: WTI (LO) 3-month Implied Volatility

Looking at QuikStrike’s call skew measure, we can see the implied volatility of the out of the money call as a percentage of the at the money call. Right now, looking at not only the full time series back to the Financial Crisis, but most importantly at the last two years, the out-of-the-money call is relatively cheap vs. the at the money:

Figure 6: WTI (LO) Call Skew

Thus, you determine that you should:

  1. Sell a March futures contract to implement your bearish view in the commodity.
  2. Look to buy options because volatility should go higher if the future goes lower.
  3. Look to buy out-of-the-money calls because you want to limit your downside in case your view is wrong.
  4. Buy an out-of-the-money call because the price looks attractive vs. the ATM relative to history.

If we do this, and then use the Simulate function within QuikStrike, we can see what the potential return from various combinations. In this view, I have settled on selling two futures contracts, and buying three out of the money calls. This enables us to have an initial short oil position, as well as be long gamma and vega in case of a bigger move in either direction. The SpreadBuilder tool shows us the expected return over a range of futures prices:

Figure 7: Short futures, long call strategy

Even better, we can use the Risk Matrix function too look at a range of futures moves and range of changes in implied volatility. We do better on a big move lower, but because we are long volatility, if we have a large enough move higher, we can potentially still make money. The green areas are where we make and the amount we make, the red areas are the risks to this strategy

Figure 8: CL Risk Matrix

Two different views and two different strategies. Regardless of your view of the underlying, you can always find a strategy in the options market to utilize. Of course, using options one needs to get timing and pace correct and not just the direction. 

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