ZCZC
BCN-11
ENERGY-OIL-NEGATIVE FOCUS
How can oil prices be negative?
PARIS, April 21, 2020 (BSS/AFP) – While a fall in oil prices is
hardly a surprise after coronavirus lockdowns hit demand just as
producers had hiked production in a war for market share, how could
they go negative?
Many no doubt thought there had been a glitch when the May futures
contract for US benchmark West Texas Intermediate (WTI) closed Monday
in New York at -$37.63.
So crude oil producers were willing to pay someone to take the
product off their hands.
How could this happen?
– Storage –
The May WTI contract plunged as the contract expires on Tuesday when
the owner of the contract is technically supposed to take delivery of
the crude.
And that is the problem: The oil storage terminal in Cushing,
Oklahoma where WTI is delivered is nearly full given the ample US
production and refineries slowing their output as gasoline demand
drops.
Meanwhile, pipeline capacity to get it out is limited.
“The oil price reflects the economic value of oil less than the cost
of storing oil,” said Stephen Innes, Chief Global Market Strategist at
AxiCorp.
“As WTI requires physical delivery and storage is very expensive to
access, the cost of storage in May exceeded the economic value of oil
in May.”
Thus traders were ready to pay others to take it off their hands.
Other US oil contracts have also turned negative recently as storage
options run out.
– What future(s)? –
The crash also called attention to the fact that most oil trading is
in futures, not physical barrels of oil.
With a such a contract the delivery of the commodity is carried out
at a later date.
Futures trading help market participants by allowing them to lock
into prices, either to sell or buy, but also allows for speculation.
Those who speculate on oil futures and never want to hold it had to
get out of the WTI May contract before it expires on Tuesday, adding
to the downward pressure.
It is instructive to look at the June WTI contract, which has also
been falling, but was going for around $16.60 in afternoon European
trading on Tuesday.
The major international benchmark, Brent, is already trading on
June. It held around $20 on Tuesday but this is also considerably
lower than even in recent days.
Holders of these contracts won’t need to accept delivery until June,
when many hope demand for gasoline and jet fuel to pick up as
countries ease their lockdowns.
But that is just an expectation, and much will also depend on what
oil producers do.
The OPEC oil cartel and a number of other major producing nations
have agreed to cut daily output by 10 million barrels per day in May.
Some analysts believe demand has dropped by 30 million barrels per
day, meaning output could continue to outstrip demand.
“So, unless there is some type of coordinated intervention, June
could become worthless as well,” said Innes.
BSS/AFP/MRU/1935hrs