The day when crude price went below zero
History was in the making when the impossible becomes reality, crude WTI price for May contracts went negative and settled at minus $37.63 on April 20, 2020. The world watched the CL WTI ticklers on their Bloomberg machine in awe with crude Future prices plunged into negative territory. Even the most reputable traders we know from the major trading house didn’t see this coming. The shock is real. So, what happened?
There are many reasons for the negative prices and most will say it was due to COVID 19 dampened the fuel demand. Some said that we have excessive crude oil supplies that have nowhere to go. All the above are true except that no one mentions about the potential impact of commodity ETF during Future contracts expiration.
Commodity ETF and Crude Negative Price
ETF is an exchange-traded fund invested in physical commodities like crude oil, natural gas, natural resources and agricultural goods. There is a popular crude oil ETF USO with an average trading volume of 100 million a day and a net asset value of $1.36B. There are other ETFs like UCO but with lower volume and asset values.
These ETFs maintain underlying commodity values by purchasing crude Future contracts and rolling off to next month when front-month or prompt month some might call it expires. The rolling process involved selling all positions in spot month and roll to next month. Most financial traders will sell or liquidate their positions on the last day of contract expiration. If they don’t liquidate, they will have to take physical deliveries which they were not designed to do. The mechanics of commodity ETF are not to take any physical deliveries unless they have storage capacity and hedge funds know this.
Commodity Perfect Storm
In this perfect storm, when ETFs liquidating billions of dollars of crude oil near to contract expiration and with refiners refused to take more supplies due to shelter-in-place plus storage near capacity, ETFs are forced to sell their crude contracts regardless of the price even they have to pay for someone to take their barrels. These losses are reflected in the ETF price and the losers in this scenario are the oil and gas industry and ETF unit holders.
So, What Happen Next?
In every crisis, there is always a silver lining. This is no exception. In the coming days, you will hear about commodity hedge funds making windfall profits. Unfortunately, there will be massive losses for lots of oil and gas companies if this negative crude price persists throughout the June contract.
Imagine, you are a mineral oil owner and you expect to get a check every month but you get an invoice instead. We can’t get to the legality of liability between the well operators and royalty owners but someone has to pay in this negative crude price scenario. We will leave that discussion for another day.
What has EnHelix got to do with this?
EnHelix is a commodity trading and logistics software company and we work with many trading companies. Our ETRM software is used to manage all commodity trades and also keeping inventories of all commodities in storage or in transit.
We are in the oil and gas industry long enough to write interesting articles about commodity trading that might be of interest to our customers and readers. We advise our customers to adopt technologies to quickly respond with informed action in days like this instead of relying on manual process or paper. Technologies can get your total position and exposure to fluctuating indexes quickly with your inventories so that you know your hedging position and inform your management about potential gain or losses. Best of all, we tested EnHelix in negative pricing scenarios in both trades and inventories and it works beautifully.
The day crude oil WTI went below zero is on April 20th, 2020. The WTI price for May 2020 contract was settled at minus $37.63. This was the first time in history that it went negative. It happened from weak fuel demands due to COVID-19, nearly full storage capacity, and crude oil ETF like USO liquidating underlying position from spot month to next month. All happened in this perfect storm scenario.
The following day WTI for May 2020 went back positive.