Understanding the ‘why’ of crude oil price slide

or the first time in history the crude oil price of front month US benchmark West Texas Intermediate (WTI) contract fell into negative territory on Monday.

The current front month WTI contract for delivery, which is May, after starting the session at $18/bbl but fell towards a low of minus $39/bbl towards the end of the day as the contract was close to expiry.

Since, the oil futures contracts relate to specific delivery periods, the oil markets being oversupplied, discouraging near-term outlook, the situation seem to be ripe enough to trigger a sharp selloff.

Here are some points that will help explain to understand how the scenarios have panned out for oil.

At the end of Tuesday 21 April, the June contract will become the new front-month contract.

This means, the buyer or longs have to be settled through physical oil delivery, i.e. the owner of the contract on the day of expiry get barrels of crude.

The oil market has a large number of financial players who cannot take physical delivery, so these participants will need to sell their forward contracts ahead of expiry to physical players who are in a position to receive those barrels.

Another interesting aspect is that of delivery point for WTI, which is a hub in Cushing, Oklahoma where this crude is traded and storage is usually available.

According to the US Department of Energy, there was 55 million bbl of crude oil stored near Cushing on 10 April. The oil market is sharply oversupplied, so inventories at Cushing are rising, currently at a rate of 6-7 mb per week.

The highest-ever amount of crude oil stored at Cushing is 69 mln bbl, which occurred in April 2017.

With some capacity expansion since then, the estimated current total usable capacity stands at 79 mln bbl. This means the remaining storage capacity will probably be exhausted in about four weeks.

Starting from 10 April, this puts ‘tank tops’ in the middle of May. After that, there is probably no more storage capacity available.

The WTI contract that expires tomorrow deliver barrels precisely around that time. Financial players that still owned May contract have probably been eager to offload these, but without physical players with storage capacity, the bid in the market dried up, allowing prices to plummet to this deeply negative value.

Although oil prices are low, there is no easy way for financial investors to benefit from this. Only those who can take physical delivery can make a financial gain out of this.

The oil price action is telling us, is that there are very few market participants – if any – in that group anymore.

In fact, the oil markets in the US are mostly guided by the paper demand.

This reality is exposed by Monday’s price movement. No one wants physical oil, nowhere to store it, no one to sell it to and nothing to do with it.

The only thing that’s holding up oil is retail traders buying fund ETFs and futures. Still more longs are holding in the system, that suggests some more pains in the offing.

The problem is that US Oil owns at least 30% of those contracts and will sell all of them from May 5-8 as they move into June.

As far as India is concerned, this is the best time to purchase crude on spot and even existing contracts will be lucrative for India.

India’s strategic reserve capacity at 5.33 MT i.e 9 days of total consumption requirement of the country of which 56% has been filled up with existing contracts of Oil Marketing Contracts. It is expected that India will fill up strategic reserves by 100% by mid of May.

Only, concern is the depreciation of the rupee which will have a marginal impact.

India’s crude purchase is based on Brent crude, Saudi Arabia, Dubai prices. Second phase of India’s strategic reserves expansion is in final stages. It will be adding 6.5MT to its total capacity.

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