Understanding the negative price of oil
Understanding the negative price of oil
The headlines (quite rightly) focused on the negative oil price seen on the US market on April 20 and 21, 2020. It traded as low as -37.63 dollars a barrel. Never before seen.
Three dates stand out in the recent history of oil prices:
1. In 2008, the crisis caused the price of oil to plummet from $145* to $45 in just a few months, the biggest drop in history (see : the Air France case). Prices then recovered to a high level.
2. In 2014, the shale revolution brought prices down for good.
3. On April 20, 2020, the price of oil turned negative for the first time in its history.
* this level was certainly exceptional
So, can you really get paid to buy a barrel of oil?
The simple answer is: no. But understanding this historic event is a good opportunity to discover or revise some fundamental concepts about oil, energy and how markets work.
First, let's clarify that the negative oil price on April 20, 2020 was seen on WTI, not Brent. [ Brent or WTI?]
Next, it is important to understand that what gave rise to this negative price is the futurecontract, expiring on Tuesday April 21. This contract is linked to physical delivery, while storage and transport capacities at delivery points are saturated. As a result, on the eve of expiration, no one was willing to take delivery of the material on the agreed date and at the agreed location. As a result, purchase contract holders did everything they could to get rid of it, right up to the normally impossible price of -37 dollars.
In other words, to take advantage of the negative price, you needed access to storage and offtake capacity in Cushing, Oklahoma...
In conclusion, this negative price is the result of a combination of several factors:
- Conjunctural: the Covid-19 crisis, which is drying up demand and preventing stocks from being emptied.
- Structural :
- A contract requiring physical delivery to a given location on a given date,
- On-site infrastructure not adapted to extreme conditions and current production levels(shale revolution),
- American production continues unabated. [Why is US production still going strong?]
The day after the crash, on April 22, 2020, the contract maturing the following month (delivery on May 22) was trading at positive prices. Buy contract holders still had a month to get rid of their contracts, if they didn't want to take delivery of the oil futures.
See you on May 22...
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