WTI Crude Oil settles in negative territory for May – will June’s WTI sell-off again

April 29, 2020 10:30

Oil markets

Last week, on Monday, history was made in oil markets: the May contract of WTI Crude Oil futures fell into negative territory, settling at -37.63 USD/BBL, down 55.90 USD, or 305.97%.

What seems bizarre at first glance, becomes clearer when looking behind the curtain and at the developments in physical oil markets.

The short version is: world oil markets face a really big problem with the storage of oil and it seems very optimistic to expect the tense situation to have diminished at the expiration of the June contract on May 19.

How can oil prices turn negative? A look at Crude Oil Future contracts, contango, etc.

First of all: the WTI Crude Oil futures contract is a physical contract. That means that traders who are Long the contract at the expiration have to take physical delivery of the oil they bought on the futures market.

You will now probably wonder if that means that if you tradeWTI with Admiral Markets and are Long, that you may have to take physical delivery yourself.

But as you may have noticed, there is no such thing when trading the WTI CFD as an "expiration date". In fact, you are trading a continuous contract, one where the price in your MetaTrader 4/5 is derived from the prices of the two nearest contract months.

That said, it becomes possible to enter a long-term trade in WTI (probably based on speculation will have to rise, but not necessarily within a month, but within the next six months and not wanting to get oil physically delivered).

Here, we the enter the world of "abstract oil": you buy a derivative like a CFD which reflects the price of the underlying asset, oil. If WTI oil goes up, the price of your CFD goes up and vice versa without the inconvenience of physically owning it. Your position, once liquidated will be settled in cash.

Nevertheless, when looking at WTI oil futures, as pointed out at the beginning of his paragraph, things are a little different: if you are Long the contract at the expiration date, you have to take physical delivery of the oil they bought on the futures market.

Alternatively, you could roll the contract over, usually something pretty undramatic. Therefore, you sell those expiring futures and buy the June ones instead.

This is where "Contango" comes into play: Contango is a situation where the futures price of a commodity is higher than the spot price of the contract today.

Contango can be considered the higher price a speculator is willing to pay rather than paying the costs of storage and carry costs of buying the commodity today.

What now happened last Monday was, that speculators who were Long WTI Crude Oil expiring on April 21 and wanted to roll over their position, since they had no storage booked in Cushing, Oklahoma (where the delivery will take place as written down in the Futures contract), couldn't do so since no one wanted to buy their positions and find themselves with physical oil they were unable to store.

That's how the May contract for WTI could turn negative: if you wanted to get rid of your duty to take the delivery of physical oil, you had to give your barrels away for free and put as much as 40 USD per barrel on top to get rid of your Long position.

The problem with missing oil storage capacities

What was probably most interesting beside oil prices turning negative was that the June contract, expiring on May 19 traded above 20 USD/bbl despite the May contract settling deep in negative territory.

That's noteworthy since it seems very likely that the physical stress with physical oil not finding enough storage capacities in Cushing will continue.

That's mainly due to the still dark global economic outlook. And with the economy re-opening carefully and step by step, the demand for oil will stay subdued while thedeep, historic production cut will likely be not enough to balance supply and demand with stabilising effects on oil prices.

While the negative prices in WTI oil are certainly not a reflection a real market conditions, currently it is probably only the hope that we'll get to see a restart in terms of oil demand three weeks from now with a realistic chance of a similar sell-off in the June contract and a realistic target around 0 USD/bbl.

How to trade WTI Crude Oil in this environment?

Given current market conditions, we clearly favour Short engagements in WTI. If we get to see a sharper rebound, a potential short-trigger can be found around 19.00 USD per barrel against which another stint lower with a push as low as 6.50 USD/bbl, depending on the developments in the latter contract for July (remember: Admiral's price on the continuous contract reflects a combination of the nearest contracts, including July):

Source: Admiral Markets MT5 with MT5-SE Add-on WTI Daily chart (between February 5, 2019, to April 24, 2020). Accessed: April 24, 2020, at 07:45pm GMT - Please note: Past performance is not a reliable indicator of future results, or future performance.

In 2015, the value of WTI fell by 31.1%, in 2016, it rose by 42.8%, in 2017, it increased by 11.5%, in 2018, it fell by 24.6%, in 2019, it increased by 33.3%, meaning that after five years, it was up by 13.6%.

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