(John Kemp is a Reuters market analyst. The views expressed are his own)
* Brent price volatility: tmsnrt.rs/1l5bLEt
* Volatility of volatility: tmsnrt.rs/1l5bOjM
By John Kemp
LONDON, Dec 1 (Reuters) - As ministers from the Organization of the Petroleum Exporting Countries head to Vienna, hedge funds have almost never been more bearish about the outlook for oil prices.
Hedge funds and other money managers held short positions in the main WTI and Brent crude futures and options contracts amounting to 294 million barrels on Nov. 24, according to regulators.
The combined short position has risen by 126 million barrels since the middle of October and is within a whisker of the record level of 297 million barrels set in mid-August.
Commentators and investors are almost unanimous in expecting OPEC to leave its production target unchanged (or even increase it slightly to accommodate the return of Indonesia).
In turn, investors expect the oil market to remain oversupplied, with a further increase in inventories and more downward pressure on prices.
OPEC ministers, led by Saudi Arabia’s Ali Naimi, have done nothing to contradict that view, leaving hedge funds free to continue selling in the expectation prices will move even lower.
But the enormous degree of investor short interest in the market has itself become a source of potential instability.
OPEC could decide to confound investors by agreeing to cut output in a bid to drive prices higher, though there is no reason to expect a December surprise at the moment.
The bigger risk comes from the enormous concentration of short positions and the possibility of a short-covering rally if the funds all try to take profits and scale them back at the same time.
The only other time hedge funds have been this short of Brent and WTI futures and options was in mid and late August.
Shortly afterwards, prices soared by more than $11, more than 25 percent, over just three trading days between Aug 27 and Aug 31 (tmsnrt.rs/1l5bLEt).
The unexpected surge in volatility was the largest since the oil market flash crash in May 2011 and before that March 1998 (tmsnrt.rs/1l5bOjM).
The March 1998 volatility spike was triggered by an agreement between OPEC and certain non-OPEC countries to cut production.
But the May 2011 flash crash had no apparent external cause and was driven entirely by the internal dynamics of market re-positioning.
It is a reminder that when everyone in the market thinks and is positioned the same way the situation can become fragile, with or without an external trigger.
How the hedge funds will exit from this large short position remains unclear. The stakes for both ministers and hedge funds have rarely been higher. (Editing by William Hardy)