How does oil go negative?

How do we get a negative cost for a barrel of oil?

I had a few people ask me yesterday, how can anybody sell a barrel of oil for a negative cost (i.e. below zero)? 

So what happened?

On April 20th, the May 2020 futures contracts were about to expire (i.e. the last day to trade futures contracts for May.) Due to what’s going on with the Coronavirus, oil production has slowed down and there is less import / export of oil. 

A lot of purchasers of oil (contract holders) had been storing their oil on various cargo ships and storage facilities. These storage facilities have become full, leaving no place to store extra barrels of oil.

In other words, if you have a contract to purchase oil you may not have a place to store it.

Hence people who owned these contracts were willing to pay others money to take the contract and store the oil, since they themselves had no place to store them.

Starting April 21st (today) the June contract are open and a barrel has already gone back to almost $20 a barrel (which is nothing to write home about, but is still better than negative.)

 

A couple definitions

Oil is a commodity and is therefore traded on futures contracts

  • What are Commodities – a raw material that can be bought or sold. Examples are oil, gas, gold, copper, coffee, etc.
  • What are Futures Contracts – is a legal agreement to buy or sell something a price sometime in the future. An example of this would be, “I would like to buy 50 barrels of oil from you at $60 a barrel in November of 2021”
 
Romeo Razi
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