Guys like myself, an ex fund manager, could be tourists in the oil market. I know I was, speculating occasionally on oil without knowing a whole lot about the details. Plenty of macro guys are similar, they bet on the large movements as the opportunites present themselves and don't worry about the details.
So what has probably happened is some of these tourists have had a few contracts left over that they forgot about or didn't discover in their position keeping until their prime brokers phoned them, and they had to dump into a market under very special conditions. Hopefully not very many contracts.
In normal times if you screwed up and had to do delivery, it stil wouldn't be a big problem, because the storage is available and you essentially just buy it (by trading with a guy who actually knows how to organize it), costing relatively little.
Disclaimer: I worked for the hedge fund at the time that bought Amaranth's holdings for pennies on the dollar. Was supposed to be a joint buyout with JP Morgan Chase, but Chase couldn't calculate the risk in time before closing and left us with all of the eggs in the basket. We ended up making a killing on the deal as we had the assets to weather the margin calls. I still can't believe anyone gave B.H. any money to trade with after that, but someone did...
Back in 2008 when oil hit $150, it was due to a single trader. Needless to say, everyone in the industry was pissed at him afterwards.
Think his account is somewhere between 10-20 minutes in this video 0. https://www.youtube.com/watch?time_continue=68&v=G6zFBzadTw0...
Chances are the people who got stuck selling at negative prices were actually doing just what you describe, they just weren't planning on the spread blowing out from physical issues.
And you typically should close out combination orders well before expiration.
And storage has not run out yet. Cushing is not full. The problem is traders are anticipating storage will become very expensive as remaining capacity decreases, so if you’re holding on to May contracts and you’re not using the oil because there’s a glut right now then you’re going to be paying a lot more to keep storing the oil for future months as storage costs go up. The huge discount reflects that cost.
I asked why they weren't prepared on Friday. Storage has been expensive and getting more expensive for weeks. We've been in a massive contango for weeks. Why weren't they prepared on Friday for physical delivery?
https://thedailywtf.com/articles/Special-Delivery
I've no idea if it is true, but it makes for a funny story at least.
The sellers were looking to sell for most of last week, however there fewer buyers as the contract approached its end, and those who were willing to buy wanted a lower price:
Volume of transactions on Friday was 344k, Thursday was 111m, Wednesday was 147m. In the past 30 days, the low was 686k (ex Friday), and the high was 459m. Traders slowed their buying so the market became one sided.
-Former dumb oil trader
+1 just for admitting it. :)
In short, the reason nobody anticipated it is because the future is unknown. The reason any market is unpredictable is because there are too many variables to account for.
I'd imagine people just assumed perfect liquidity here, and that they'd be able to sell even "at a small loss which is better than nothing," not realizing that nothing or negative (i.e. you're gonna pay somebody to take this oil off your hands or build your own tanks) is a valid outcome.
too bad the oil market is ... viscous.
US companies don't want to stop producing oil. Couple that with the Russia/Saudi Arabia skuffle going on over oil prices, I'm not surprised. What surprises me is the absolutely rapid/rabid decline in the price. It just seems like pure insanity to me...
Indeed, it looks like the US is reconsidering:
President Donald Trump said Monday the U.S. is "looking to" add as many as 75 million barrels of oil to the Strategic Petroleum Reserve. Trump spoke after an historic day in the oil CL.1, +103.61% markets, in which the May WTI crude contract closed at -$37.63 a barrel, a one-day drop of 306%. Trump said he was considering the move "based on the record low price of oil," and that the action would "top it out." Speaking at a White House press briefing, Trump said, "we'd get it for the right price."
https://www.marketwatch.com/story/trump-says-us-looking-to-a...
Correct me if I'm wrong, but: The people doing the trading are middlemen, and have no capacity period. They expected to be able to sell it all off to the energy companies, even at a loss, so they normally don't accept any physical product. But the energy companies ran out of capacity - something the middlemen (traders) don't have direct knowledge of - so got caught unexpected with contracts they can't sell, and now have to accept the physical product.
Because despite the people that like saying all future events are reflected in current prices, the fact is humans, both individually and aggregated into markets, are imperfectly prescient, thus future events are basically never perfectly priced in to to current market prices.
People say things to the effect of “if it is going to happen, it is already priced in” all the time, on HN even.
> All KNOWN future events are priced in.
There are no such thing as known future events. Market participants estimation of the likelihood of future events, weighted by inclination and capacity to invest, are priced in.
By definition, you’re looking at the price for people who wouldn’t want to play, if they could avoid playing. They are literally over a barrel. If they don’t get out, the broker gets to screw them even worse at the deadline.
Volume was up, because some people were going through heroics to close their position at all costs.
But the end of day price is for those who got screwed: the truly unaware who didn’t realize they were out of time, or didn’t think about it going past $0. It’s probably relatively few people, despite today’s volume. When you lose control, someone agrees for you that you’ll pay $37/bb to get out.
Most oil traders just want to profit off price movements and not actually own physical oil. There’s no volume on May contracts now they’ve all moved on to June.
I have not been involved in chapter 200 operations but I've heard socially this occasionally happens relating to substandard product. "We agreed on light sweet crude in the contract but you tried to deliver sour tar". The exchange knows its all going to get dragged into court eventually, so they try to be fair and transparent and well documented. There are plenty of people renting tank space as a normal business operation.
I don't think you're going to get Force Majeure protection. That's for something neutral to all parties like a hurricane, not one side of the contract didn't feel like closing out and doesn't have tank space lined up.
Prices didn't crash until this morning. Nobody was taking much of a loss before then.
What, exactly, do you expect them do to "prepare"? Friday they had more time to unload the contracts, and today they have less.
Sell futures on Friday, buy today (to close out the position). Profit from the predictable price difference.
(Short-) sell last Friday, buy today at about 0 to close the position.
But no one expects perfect predictions far into the future.
Pretty tough TBH, unless someone is planning a war in Middle East and is grabbing up the contracts and you know about it...
Good question. The answer is because they don't think it will be profitable. Why aren't you?
Either things settle back down to normal at some point, in which case you've made some revenue, but probably not recouped your investment. The Cushing facility managed to build 7 million bbl capacity in the early 90s for $60 million. I expect it would cost $80-100 million to build today. Current (inflated) storage costs are 50 cents per barrel. Let's say that rises a LOT and skyrockets to $2 - that's a gross of $14 million per month. Assuming $0 in overhead, you'd need for this contango to last for another 7 months to break even. If we assume something like a 30% margin, then you'd need it to last around two years.
Alternately, things don't return to normal. The market becomes depressed enough that airliners barely fly, and the global world consumption falls. The oil you're storing becomes cheaper to the point that storing it costs more than buying it, and there's nobody to sell it to. Your customers default, and your investment quickly becomes the thing that bankrupts you.
It is ironically the portability of oil-refined products (gasoline, diesel) that makes it so appealing for things that aren't stationary -- planes, cars, etc.
For example, any container over 55 gallons is subject to EPA regulation and counts towards the total permitted site quantity. Storing more than 1,320 gallons above ground requires the site to have an approved SPCC (Spill Prevention, Control, and Countermeasures) plan.
You can store 42,000 gallons below ground but that requires excavation, permits etc.
Basically: it's difficult to do on short notice.
Further reading: https://www.epa.gov/ust/aboveground-storage-tanks
One point made when that fire occurred was that the tanks are placed in earthen basins, so that when tank fails, the flaming fuel just fills the basin, minimizing risk of spreading to neighboring tanks.
These physical goods are much harder to store than bits.
When is the physical settlement of the contract? My understanding is that physical settlement of the May futures contract is 21 April (that is, tomorrow).
So you don't have a week or two to build your big tank. It needs to be finished tonight.
https://www.cmegroup.com/trading/energy/crude-oil/light-swee...
My guess is that the build time is 1-2 years with 5 years of permitting up front. I also imagine building capacity is capped with a limited number of trained engineers/welders.
You hear about a sale on cereal for $0.01 a box. Great deal but then you find out that you can't walk there, you can only take Lyft/Uber and it costs $100 each way to get to the store. So in reality its not as good a deal as it sounds.
Hard to follow this analogy
And all of those facilities are full. The ones that aren't are charging an arm and a leg for storage services.
A lot of speculators were betting that oil prices were going to go up and had rented ships and filled them with oil they though was cheap, before COVID-19 even hit. Since then, oil prices have absolutely cratered.
Are speculators leasing the tankers on a month to month basis? What happens when/if the tanker isn't offloaded at the end of a contract?
It’s a pretty efficient market
See this article (Suspect rates have climbed even further as the storage trade becomes more lucrative.
https://www.forbes.com/sites/gauravsharma/2020/03/12/superta...
No one needs oil right now so if you take physical delivery it’s going to be sitting there for longer than a month.
They would not be the one holding that particular bag.
It may come to the point that you're paying some to take the contract.
The problem is that you have to store the oil for a month which is pretty expensive right now.
Now if you are a financial participant you need to close out your position as you are not in a position to either deliver/receive physical oil - so you need to essentially pay whatever it takes to close out the contract. In normal times there is plenty of storage and physical participants that are willing to provide liquidity as the contracts come to maturity. Now imagine you are a physical participant, and now space is limited/storage is expensive/ natural buyers aren’t buying (refiners) - you are not going to pay much to buy the oil of a financial participant who needs to sell the May contract to roll into June/July...
https://www.cmegroup.com/trading/energy/crude-oil/light-swee...
No, the Friday longs had a place to put it. But given it's late in the month, the people buying on Friday were probably finishing up their orders for the prompt month. Today, by comparison, there were no buyers, only sellers. Hence the drastic change in price. If there had been more buyers, the price would have been significantly higher (this is why next month's contract price is so much higher (in the $20's).
> Just seems like you would know what to do with the oil on Friday.
To be clear, they did. The people who had oil for sale and were holding out for a higher selling price who did not sell what they needed to sell last Friday are eating their shirts today. Their "greed" (relative, not necessarily Gordon Gecko style greed) caused them to lose a lot of money. Somebody will be firing oil traders this week. Not sure if that will make headlines. But somebody's book definitely blew up because they tried to get a higher price last week and ran into today's sale. Could be a hedge fund, could be an oil producer. But definitely look for this news soon.
time is information, so closing out an option (like a short or a futures contract) prematurely tends to eat value on average.
however, in this case, the new information was so material and overwhelmingly bad, that you're probably correct that most should have closed out early and taken a smaller loss.
It would seem like a prudent thing to do because it can then be used to restart the economy later and make a decent profit to pay off things like all these Covid checks.
Good call! Now it’s about $5.30, and has dipped as low as $4.04. (Insert joke about “energy market not found”.)
Edit: wow. Just wow. Below $1 a barrel and kissed $0.01 at one point! That’s gotta be a record.
https://www.reuters.com/article/global-oil-storage/global-oi...
Let's add that to the list "Things I never thought I'd see but 2020 happened"
There are lots of ways to have a contract, but one example of why this is done is if you have oil and on a slow boat. When the oil is loaded onto the boat the well owner wants to be paid, while the ship owner doesn't want to buy it, and the destination does not doesn't want to pay for it. This the ship will pay for the oil by selling a contract, the ship already knows where it is going, but they don't want to have ownership of the oil. By selling the contract on the same day they get their money back and don't lose money if oil goes down. Then they sell the oil on the other end and pay off the contract. Of course in the real world it is more complex but in general the destination is already known what isn't known is how much the oil will be worth when it gets there.
Note that I said hard to take delivery when you don't want it. Such things do happen despite safeguards. They are expensive mistakes for everyone (the ship delivering oil can't unload and so will miss the next dock while running for someplace that can take it), so there is a lot of checks in place but they can fail.
READ THE EPA STATEMENT..
https://www.epa.gov/sites/production/files/2020-03/documents...
> The enforcement discretion described in this temporary policy do not apply to any criminal violations or conditions of probation in criminal sentences.
...
> This policy does not apply to imports.
They are relaxing REPORTING requirements - not giving a free pass to anyone dumping whatever they want. Obviously.
> IV. Accidental Releases Nothing in this temporary policy relieves any entity from the responsibility to prevent, respond to, or report accidental releases of oil, hazardous substances, hazardous chemicals, hazardous waste, and other pollutants, as required by federal law, or should be read as a willingness to exercise enforcement discretion in the wake of such a release.
https://www.epa.gov/sites/production/files/2020-03/documents...
> The enforcement discretion described in this temporary policy do not apply to any criminal violations or conditions of probation in criminal sentences.
...
> This policy does not apply to imports.
They are relaxing REPORTING requirements - not giving a free pass to anyone dumping whatever they want. Obviously.
Not really. Almost all contracts are cash settled.
The parent comment is 100% correct. You're missing the nuance of how commodity futures trading works. Yes most are cash-settled but there is a date after which if you hold the contract you're promising to make or accept physical delivery. The commenter is saying we reach that point for the May oil contract tomorrow so anyone who wants to settle in cash has to do so by tomorrow.
When the contract approached the settlement date, the broker called to ask him to sell. Trouble was, my grandfather just wanted cows, not cash. The broker was frustrated to no end.
Long story short, my grandfather got the cattle, as the contract required, but was asked by the broker never to do business with them again.
N.B. Don't do this unless you're interested in financial silliness, or if the futures are really badly mispriced. It is a lot easier, and you get to see the cattle first, if you buy through a local cattle auction.
Edit: finally found it: https://thedailywtf.com/articles/Special-Delivery
https://www.passeidireto.com/arquivo/73586616/john-c-hull-op...
https://www.npr.org/sections/money/2018/09/19/649273647/epis...
The specs for delivery are always very clear because price depends on where it needs to be delivered!
"Delivery shall be made free-on-board ("F.O.B.") at any pipeline or storage facility in Cushing, Oklahoma with pipeline access to Enterprise, Cushing storage or Enbridge, Cushing storage."
What does it mean to be "normally not a destination for oil" and who is doing this checking (do you realize the volume of oil that is traded monthly? The futures market being discussed here uses standardized contracts.
Thus, traders who still have contracts open but cannot take physical delivery will have to close their positions out today or tomorrow, thus causing the dip we are seeing.
The June contract, where most of the trading is happening, is at around $22, and the July contract is $28.