I do not know about you, but at no time had I thought I would see negative crude oil prices in my lifetime. The idea of witnessing very low oil prices is something I understand and have seen it in the past. The question today is; why has crude oil price futures crashed to negative?
It is crazy to see the price of oil fall to below zero. That is the biggest shock in oil and gas industry, and continues to cause debate to date.
Seeing the WTI crude oil futures contract hitting negative $37.63 per barrel was a sight to behold.
The idea that holders of oil futures contract would be willing to pay to not have the oil delivered to them is crazy to say the least.
To understand how and why this happened, it is important that you look at the factors that affect crude oil prices. The key factors include supply, demand and geopolitical considerations among others.
Oil is one of the major commodities in the world. It is a source of energy and remains critical to global economies.
In hindsight, it is easy to now see or understand why the crude oil futures crashed to negative.
The crash in demand that followed the spread of Covid-19, along with a price war between oil giants Saudi Arabia and Russia in early March spurred the move into negative prices.
As the delivery date for WTI grew near, investors began a massive sell-off to take the contract off their hands.
What is Negative Oil Price?
When you think of oil, it is possible you do not think of it from a negative price point of view.
So, what is negative oil price?
When oil is at the negative price level, it is a situation where the holder or buyer of an oil futures contract is willing to pay the seller not to honor the contract.
Why has Crude Oil Price Futures Crashed to Negative?
Here are the reasons why crude oil price futures have crashed to negative;
- Reduced and lack of demand for oil in the world.
- Limited oil storage capacity.
- Over-supply or oil glut in the market.
- Global restrictions due to covid-19.
This is why the investors and traders holding oil futures wanted out of the contracts. It is an interesting case where if you are the seller, the buyer is paying you so that you do not deliver the oil as the contract had specified.
What Happens When Crude Oil Goes Negative?
To think of the crude oil prices going negative is crazy to start with. However, you now know this is a real thing.
It is therefore important to understand what happens when crude oil goes negative.
Based on what the world went through, a few things are clear now. If the crude oil prices go negative, here is what happens;
- Global oil prices crash.
- Investors lose money in the stock market.
- Millions lose jobs.
- Some companies go bankrupt when oil prices go negative.
- Oil producers reduce oil production.
- Demand destruction in the oil market.
- Lack of oil storage facilities.
Negative WTI crude oil prices are not good for the economy. Investors in the oil industry lose money. It is also why millions of people lose jobs as companies cannot sustain the balance sheets when losing money.
Why Did Oil Prices Go Negative?
For you to understand why oil prices go negative, you should look at the wider topic of oil and gas economics.
Being able to understand the forces that drive the supply and demand of oil in the market is important. You will be able to learn how oil prices can go negative.
The last time oil went negative in April, 2020, the main reason was the oil demand destruction caused by a global pandemic.
Travel restrictions and business lockdowns across the world means that people are not consuming oil at the same rate they would if everything was normal.
With production still taking place, this situation leads to oversupply. It is this excess oil in the market that will make the oil futures contract go negative given the limited storage capacity in the world.
What Does Negative WTI Price Mean?
In the world of oil trading, negative WTI prices mean that the traders are desperate to get out of their futures contract to the level of wanting to pay you to take the oil off their hands.
It is a situation you would not want to find yourself in as an oil trader or commodity trading investor.
You should go and check out a more detailed post on what negative oil prices indicate that I have posted elsewhere on this website.
Related: What Do Negative Crude Oil Prices Indicate?
In a nutshell, negative WTI price mean that companies are paying oil traders to not deliver the oil as per the futures contract.
Can I Buy Oil at Negative Price?
It is argued that everything that happens in the oil market presents an opportunity for business.
When oil is at negative prices, it is can provide you with an opportunity to buy the oil and sell it at a profit at a later date.
However, this depends on whether you have capacity to store the oil you are buying at negative prices.
What is Negative Gas Price?
While the discussions here has been about negative oil prices, it is important to point out that negative gas prices are a reality in some parts of the U.S markets today.
The gas market is constrained by its physical capacity and if storage facilities are filled up, then gas prices will go to the negative.
One might even argue that the European gas prices would more likely flip to negative in the prompt contracts, rather than the contracts further out.
This is especially true when the storage injection rates are low and demand is weak due to mild weather.
Natural gas is no stranger to negative prices. The U.K.’s NBP plunged below zero in 2006 after a pipeline opened for commercial imports from Norway.
That plunge was more of an operational issue from the pipeline than a market trend, and it wasn’t in the middle of a bearish market, such as the one today,
In the U.S, associated gas, a by-product of shale drilling, has periodically gone negative due mainly to increased production coming up against limited transport capacity at places such as the Waha Hub in West Texas.
Conclusion
In conclusion, it is important to always remember that a commodity can have no, reduced or even negative value in the market.
As you have seen above, several factors can lead to a situation of negative WTI crude oil prices as witnessed in 2020.
Understanding the role crude oil plays in the economy is critical. It is going to help you learn why negative oil prices are possible.
When the world faces an economic downturn, industries and economies slows down. This in turn slows down or destroys the demand for oil in the market, and when combined with an outlier like Covid-19, it leads to negative oil prices.
It is the reason why the prices of crude oil futures crashed to negative.