Overfull storage tanks cause oil price to plummet

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Negative oil price

The corona crisis turns many economic laws upside down. Yesterday another border was shifted. Buyers of a barrel of oil received almost 38 dollars when buying a barrel of West Texas Intermediate. At the beginning of January, more than 62 dollars was paid for this. A phenomenal drop in prices due to a concurrence of circumstances. A collapse in demand as a result of global lockdowns, a price war between the world’s largest oil producers, a dire lack of storage capacity for oil and the monthly rhythm of the oil futures market all contributed to a price drop of $60 in one day.

Collapsed demand

The biggest culprit is a virus that has occupied the whole world for some time now. Economies all over the world are locked up. Factories run at half speed, planes stay on the ground and hardly any cars drive on the roads. The demand for oil has collapsed by a third in a short period of time. The recent agreement between OPEC and Russia to reduce oil production by 10 million barrels a day is not enough to keep up with the reduced demand of 30 million barrels. The price of oil then went into free fall. Investors in oil funds saw stock market prices plummet to unprecedented depths.

Full Storage tanks

At the moment, this storage tanks overproduction should not lead to major problems, as sooner or later the demand for oil will start to pick up again. Were it not for the fact that storage tanks around the world are filled to the brim with oil. For example, the tanks in Cushing, Oklahoma – known as the pipeline crossroads for oil in the United States – were 72 percent full. The remaining capacity is not available to those who have not already rented them. Off the coast of Africa, another 150 million barrels of oil float aboard oil tankers. In the United States they have even started filling tanks on trains. Oil companies and traders have nowhere to dispose of the too much oil produced.

WTI-future

Now, the case was that on 21 April the forward contract for the supply of WTI oil expires in May. These contracts trade on Mercantile Exchange in New York and, unlike many other futures, have physical delivery. Traders who had bought these contracts could therefore choose between delivering the oil drums or selling them at a heavy loss. Since they could not get rid of the oil anywhere, delivery was not an option. So losses had to be taken. And so it happened. Sunday evening WTI opened at a rate of 18 dollars a barrel. One day later the rate had fallen by almost 60 dollars.

Business of their lives

Traders who did have leased storage capacity could do the business of a lifetime. They were paid almost $40 for oil, which they could then sell again for $20. That was the price for a contract expiring in the month of June. However, this drop in price did not benefit everyone. A few days earlier, for example, oil companies were still satisfied with the soil that had been created by the oil agreement between Russia and OPEC. However, the soil turned out to be made of cardboard. Shale oil producers are also struggling to cope with this low oil price. Most of them get the oil out of the ground for an average of 50 dollars. Saudi Arabia and Russia, the two main pillars under the agreement, were also not amused. Let alone President Trump, the initiator of the agreement.

Fundament

For Trump, the survival of the shale sector is of great importance. A wave of bankruptcies would wash through the already severely affected American economy like an oil slick. One of the possibilities the United States government has is to pay the oil producers to leave the oil in the ground. It would enable the market to recover somewhat. Moreover, should that happen, the American treasury would make a nice profit. It would be very convenient. Never before has the oil industry been so tested to the limit. Low prices threaten the stability of an industry that is the foundation of the world economy.

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