Understanding the Concept of Negative Price of Crude Oil
It was not a normal morning as the first thing which stuck the internet is that the crude oil prices have fallen a record low and also fallen below zero.
Well, that is exactly what had happened. The price of a barrel of WTI fell to minus, $37.63 a barrel. But what does it mean for the oil prices to be in the negative? Does it mean we will not have to pay for oil consumption? Let’s find out.
Before blindly thinking that crude oil prices have fallen and subsequently the petrol and diesel prices may come down, we should know about some of the terminologies in oil trading.
First of all, it’s the prices of future contracts for the WTI Crude that fell 37 dollars. But before that, we should know that two types of crude oils are traded which are WTI crude oil and Brent crude oil.
Difference between WTI Crude Oil & Brent Crude Oil
WTI stands for “West Texas Intermediate” which is usually extracted from us oil fields near Texas, Louisiana, and North Dakota in the United States. This is a benchmark for fuel prices in the U.S.
On the other hand, Brent oil which is extracted from the sea is the international benchmark set by the OPEC (Organization of Petroleum Producing Countries) since Sri Lanka imports mainly from OPEC, Brent crude oil is the benchmark for the oil prices in Sri Lanka.
We don’t have to be much worried as the future contracts of the Brent crude oil are trading at 29 dollars a barrel which is low compared to that January price.
Why did the WTI crude oil price fall?
The large slump in price is due to low demand and high supply. The estimate for the May contract is low because the demand for the oil fell 99% because of the Coronavirus pandemic as most of the people are confined to their homes and transportation has come to halt with all means of transportation suspended since the lockdown.
Decline in Demand
During the world wide lockdown due to the COVID19, the consumption & global demand for oil has gone down drastically. The global demand for oil has gone from 100 million barrels per day to 29 million barrels per day. OPEC and other producers agreed to cut production by 9.7 million barrels a day, far less than the decrease in demand, leaving a huge surplus of oil in the market with no buyers.
Storage Costs Have Increased
Oil companies need to extract continuously without pausing as stopping of extraction may result in billions of losses and it is like starting from the beginning once again. So, oil companies have no choice but to continue extracting irrespective of market behavior.
Since April stock is still in storage tankers, the demand for storing the May and June stocks has increased rapidly. This is the main reason the crude oil prices have fallen very low and ironically oil companies are paying for storing the stocks.
But according to crude oil future quotes, June’s future contract is expected to be at 20.43 US dollars.
Storage Factor
Oil is always traded on its future pricing and each contract trade lasts a month. With May’s contract expired already, the commodity producers are willing to pay purchasers to take oil off their hands amid fears that most storage facilities will run out of space by the end of May.
They are seen as very keen to avoid taking possession of those oil holdings and having to deal with the storage costs. The real problem of the global supply-demand imbalance has started to manifest itself in prices.
And the Brent crude oil June future contract is expected to be at 25 US dollars.
What Does It Mean for Us?
The negative pricing is not going to affect the local consumers. The prices cannot be considered as the true pricing of the commodity as it is traded on future pricing. If we take a look at the June pricing, though weaker than last year, the commodity price can be seen as above $20 per barrel.
The pandemic’s effect on oil as a commodity will surely mean that the prices, internally at the pumps, will fluctuate and be lower than before but it will be temporary and the government most definitely not be giving it away for free.
So, it is expected that prices are going to jump and demand may even increase rapidly once this Corona pandemic crisis ends.
As of now, there will be no much effect on the oil prices, but the businesses which have invested in these oil companies may see losses in this quarter which will result in mixed behavior in the stock market around the world.
