Dubai: "Crash" was the word most used to describe oil price’s descent into the pits on Monday (April 20).
Prices briefly hovered just a dollar above the $11 a barrel low it had last touched in 1998. This was in the relatively early hours of trading in New York.
And then came the unthinkable.
US oil “futures” for May deliveries literally broke into the negative territory, dipping to as low as minus $40.32 to a barrel.
In the futures – call it "forward traded" – world of the energy business, a buyer would actually be getting $40.32 from the seller for each barrel of West Texas Intermediate (WTI) oil he bought in May if they had a tank to store it in the main storage hub of Cushing, Oklahoma.
Much like someone depositing funds with a bank and then paying the bank for the pleasure of carrying that deposit.
That, at least, is what it means in theoretical terms.
Since it is produced near the sea and it can be put on ships immediately, the cost of shipping Brent crude is typically lower.
WTI, with a lower sulphur content (0.24 percent) than Brent (0.37 percent), is considered "sweeter".
Both oils are relatively light, but Brent has a slightly higher API gravity, making WTI the lighter of the two.
Q: But what’s really happening in the world of oil?
Whatever the price of May oil futures, the price of physical oil today is around $21 a barrel (Brent) – and that’s what will be reflected if anyone turns up at a service station anywhere in the world.
That is, if anyone still turns up to fill up their vehicles these days. So expecting to get paid for filling up at any petrol pump next month will be stretching it a bit too far.
For the record, the April per-litre prices in the UAE are Super 98 at Dh1.91, down from Dh2.16 last month and Special 95 at Dh1.80, down from Dh2.04.
The buyer takes on the obligation to buy and receive the underlying asset when the futures contract expires. The seller takes on the obligation to provide and deliver the underlying asset at the expiration date.
Q: So, what happened on Monday?
“What happened in the US oil futures should not be looked at in isolation,” said Daniel Colover, Market Engagement Manager – Middle East at S&P Global Platts. “Right now, there’s an abundance of supply and a total absence of demand.
“The pressure on WTI crude is a global phenomenon — no one will be spared by the drop in price of crude and the decline in demand of oil supplies.”
Monday’s panic was set off when oil traders realised there is a distinct lack of space at the tanks in Cushing, Oklahoma.
“Oil producers are struggling to find a home for their commodity, and the one at Cushing is said to be near full capacity,” said Colover. “When you produce, you send it to a refinery, a tank for storage or onto a boat.
Both Brent and WTI oils are relatively light, but Brent has a slightly higher API gravity, making WTI the lighter of the two.
The formula for API gravity is API = (141.5/SG) -131.5 where SG is the specific gravity of the petroleum liquid being measured. For example, for an API gravity of 50, add 131.5 to obtain 181.5. Divide 141.5 by (131.5 + API gravity) to obtain the specific gravity of the oil. [https://sciencing.com/convert-api-density-8443808.html]
“Also, on Monday, financial traders did not want to take physical delivery of the crude oil contracts they hold and that’s why you saw the slide into negative prices.
“Oil producers are struggling to find a home because there is a general lack of demand for their oil. In the weeks ahead, will this pressure on supply and process run into the WTI June futures contract?
“No one knows – we can guess or estimate what might happen. But that’s still into the future.”
Q: How long will the ‘negativity’ continue?
In a statement, Chris Midgley, Head of S&P Global Platts Analytics, said: “The market will adjust - and WTI will not trade at negative prices generally. This event is totally related to the current contract expiration.
“However, Platts Analytics outlook is for global crude supply to rapidly fill available storage onshore and afloat. As that happens, prompt prices will weaken further and producer takeaway will be constrained, ultimately limiting production.”
Q: What's next? Was "Manic Monday" a one-timer?
Even with all that’s been happening in the oil markets, a dive into negative prices does seem excessive.
Stephen Innes, Chief Global Markets Strategist at AxiCorp, is still undecided as to what happened… and why. “It's far too early to call this a trade gone wrong with reopening happening around the world amid the increased likelihood of additional short-term interventions from OPEC+ producers.
“But this meltdown brought to bear a level of hedging unsophistication that more resembled pen-and-paper 1980's trading rather than the computer-modeled era of 2020.”
It’s easier for refiners to make gasoline and diesel fuel out of low-sulfur or “sweet” crude than oil with high-sulfur concentrations. Low-density, or “light” crude, is generally favourable to the high-density variety for the same reason. [https://bit.ly/3cBO5Ch]
Q: But isn’t WTI an American crude? What relevance would WTI have on UAE/Gulf oil producers, who deal in Brent?
“The fall in demand and a glut in production will impact all,” said Colover. “And the price of Brent crude is impacted by the amounts exported from the US.
“The slide to minus $37 a barrel for WTI is just for the May futures – that’s the crucial part to be kept in mind," Colover explained.
“The June oil futures also has some pressure, but nowhere near to what was there on April 20 for the May ones. The June WTI futures are still around $20 and ICE Brent today for June is around $23 a barrel.”
Q: Does WTI/US oil land up in the UAE/Gulf?
No.
Typically, WTI crude is not processed in the Middle East. “But the US ships crude to Asia and condensates to the Middle East,” said the analyst. “But right now, there is a glut of crude everywhere… and it’s telling on everyone’s interests.
“Brent as part of the global crude complex will also be under pressure, both on surplus supply in the US and other regions.”
Q: What can Opec/Opec+ do — or not do?
Opec and Russia, with the active goading by the US, concluded a “historic” production cut deal, which sees as much as 10 million barrels being eased out of supply in coming months. The deal is to go into effect in phases from next month.
But no one is betting on oil prices to suddenly see upward mobility. “Regardless of what OPEC does, there will be structural demand loss for oil due to less travel,” said Innes. “At a minimum, oil prices will be the last asset class to recover from lockdown.
“End transport demand will only occur in the final stages of reopening [after COVID-19 clampdowns], and travel restrictions get lifted. People will then flock again to planes, trains, and automobiles.”
It's for this reason that it is slightly more sensitive to geopolitical tensions, according to Investopedia. [https://bit.ly/3cBO5Ch]
Q: Should I bet on gold… for now?
When all assets misfire, go for gold. That’s what’s been happening in the hours since WTI oil futures went sub-zero. Gold is now inching up back to $1,700 an ounce.
When all assets misfire, go for gold. That’s what’s been happening in the hours since WTI oil futures went sub-zero. Gold is now inching up back to $1,700 an ounce.
“Oil prices usually have a positive correlation with gold,” said Innes. “”Higher Oil” may be inflationary and can boost gold while the opposite can also be true, but in this environment, June WTI futures also fell more than $4bbl to $21bbl.
“The lack of near-term demand, as evidenced by plunging spot prices plus the economic dislocation of low oil, triggered enough investor angst to buoy gold.”
Q: Should I write-off oil, then?
Depending on your appetite for risk, oil still presents an opportunity.
“Negative oil prices have been an extraordinary window of opportunity for risk-takers, while more risk-averse investors are waiting for the floodwaters to recede before entering the market,” said Ipek Ozkardeskaya, Senior Analyst at Swissquote Bank.
“Yesterday proved that the oil market does not have a concrete bottom.”
But that still doesn’t mean a vehicle owner pulling in at a service station will be paid to fill up. That’s not going to happen.
Q: What's next?
Analysts say the oil market remains under "strained" conditions.
Meanwhile, spot prices are seen hovering at negligible levels.
Following an unbelieavable drop to $37-a-barrel on Monday, WTI did claw back a lot of the overnight losses Tuesday morning — with trades hovering at zero per barrel.
However, "the risk of a return to negative prices remains high,” warned Aditya Pugalia, director of financial markets research at Emirates NBD. “The disorder doesn’t show signs of ending.”
