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What Do Negative Oil Prices Actually Mean?

Written by Samuel Taube
Posted April 26, 2020

These are tough times we’re living through. Everyone could use a few extra dollars, and last week, commodities markets gave us a brand new way to do that: buy oil.

No, not buy and then resell oil…

Just buy it

You see, the West Texas Intermediate (WTI) crude oil price benchmark dipped below zero for the first time in history on Monday. At the time the first draft of this article was written, a barrel of oil was worth -$37.63, although it has since rebounded into the low teens.

negative oil prices, wti

Source: Markets Insider

This brief incident of negative oil prices raises some interesting questions. Who would actually pay to sell their oil, and why? Will consumers start getting paid to get gas if it goes negative again? What does this mean for the industry and its shareholders? 

Let’s dig into all of these… 

How Negative Oil Prices Work 

Oil production can cost millions of dollars in machinery and labor, so why would producers ever pay buyers to take it off their hands? 

In short, they won’t — but futures traders might. 

Futures are contracts that allow a commodity buyer (in this case an oil buyer) to lock in a delivery at a specific price at a specific future date. Producers and consumers use futurization to hedge against future price changes, but traders also use them as speculative instruments. 

Last Tuesday, April 21, was the expiry date for May oil futures contracts. That’s the date by which the holder needs to either sell the contract or accept physical delivery of actual oil. 

And traders who were still holding May contracts on April 20 faced a conundrum. 

No one was willing to buy the contracts off of them — not for a positive dollar amount, at least — and they certainly weren’t willing to accept physical delivery. 

After all, there’s an extreme oversupply of oil in global markets right now due to COVID-19-depressed demand and the Russia-Saudi Arabia price war. That oversupply has led to an extreme shortage in oil storage space — and rising costs for it.

So the reason traders sold oil futures contracts for negative prices last week was because it was cheaper to pay someone to take the contracts off their hands than it would have been to find a place to store the underlying oil. 

Now that May contracts have expired, the price of oil is back above zero — but not by much and, perhaps, not for long. The Chicago Mercantile Exchange allowed the first-ever negative-strike-price option contracts to start trading on Wednesday, hinting that many investors expect negative oil prices to return in the near future. 

What does that mean for your weekly gas bill? 

Effects on Consumers

No, unfortunately you won’t start making money at the pump if prices go negative again, nor will you get free gas. 

Oil prices are only one factor in gas prices. Refinery operational costs, shipping costs, and taxes also contribute to the price of filling up your tank. 

However, negative oil prices could push gas prices down by a significant margin until the supply of oil drops back down into equilibrium with demand. 

Some analysts, like Avatrade’s Naeem Aslam, think that gas prices could decline by up to 30% this year due to a combination of negative oil prices and depressed consumer demand for gas. 

And while negative oil prices might not mean free gas for consumers, they have a dramatic effect on producers… 

Effects on Oil Companies

Each month, oilfield services company Baker Hughes releases a report counting the number of operational oil rigs in North America. 

The most recent report showed a 35% decline in rigs from the month before, suggesting that this price action is causing the oil industry to effectively shut itself down at a rapid pace. 

You can see this shutdown in the prices of publicly traded oil exploration companies. The SPDR S&P Oil & Gas E & P ETF (NYSE: XOP) has shed more than half its value so far this year.

negative oil prices, e & p

Conditions in the oil industry are dire enough that the Trump administration is considering paying drillers to keep their oil in the ground. 

This proposal, ridiculous though it may sound, could stop the worsening oversupply problem and prevent a wave of oil company bankruptcies in this already frail economy. 

With that in mind, energy investors will need to be cautious in the coming months. They should consider subscribing to a specialized newsletter like, well, Energy Investor, whose editor, Keith Kohl, has a proven track record of earning double-digit returns during past oil gluts. Click here to learn more.

Until next time,

Monica Savaglia

Samuel Taube

Samuel Taube brings years of experience researching ETFs, cryptocurrencies, muni bonds, value stocks, and more to Wealth Daily. He has been writing for investment newsletters since 2013 and has penned articles accurately predicting financial market reactions to Brexit, the election of Donald Trump, and more. Samuel holds a degree in economics from the University of Maryland, and his investment approach focuses on finding undervalued assets at every point in the business cycle and then reaping big returns when they recover. To learn more about Samuel, click here.

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