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  • Writer's pictureDragostin Kozhuharov

What is happening with oil? part two

A historical move happened yesterday in WTI May futures. For the first time ever we had WTI trade with negative price. How and why did this happen?

As we discussed yesterday the current oil market is in contango, meaning that futures prices are currently higher than the spot price.

WTI May Futures Daily Chart

We also briefly mentioned that storage is scarce at the moment in the US. The May futures contract expires today. Now as traders know, when you buy futures and you hold them until expiry you expect physical delivery of the product. If however there is no storage available, you simply don't have anywhere to put it. Also, towards expiry, traders tend to move to the next contract month which in this case is June. Therefore the liquidity on the May contract became thin.

Therefore once traders decided to rollover or get rid of long positions as they didn't want to take delivery, this created big pressure on the May Futures price and it traded as low as -40.32$. This literally means that a trader was willing to pay someone else 40.32$ per barrel for that someone else to take his oil, in order to get out of a position that might imply physical delivery.

WTI June Futures Daily Chart

Now looking at the June futures price above, one might think - 'If I am getting paid to receive Oil on the May contract, why not buy oil on that contract, take the physical delivery and then sell it on the June contract where the price is positive'. Essentially I am getting paid for Oil in May, which I can sell in June and make a big price difference. And again here comes the problem with the storage. In theory this could work, but in practice, unless you happen to own an oil storage facility, you could be faced with a futures position which you can't liquidate or if you can, it would be at a bad price due to liquidity. Or with physical Oil delivery which you can't store anywhere.

In summary what happened yesterday is a result of the unique situation of big supply and low demand for oil, the fact that the May futures contract was very close to expiry - therefore not as liquid, and last but not least - the nearly full storage capacity in the US which makes traders unwilling to accept physical delivery.

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