Negative oil prices may be behind us

April will be remembered as the month where WTI oil prices traded into negative territory, with the May contract trading at a low of -US$40.32/bbl, a day before the contract expiry.

Much of this extreme weakness had to do with the expiry of the May contract, with longs desperate to close out their position or face having to take physical delivery of oil at Cushing, the WTI delivery hub. Looking at the open interest in the May contract, going into the penultimate trading day, open interest was still significant, and hence the need for these positions to be closed out ahead of expiry.

However the fact that prices had to trade down to these levels to find a buyer clearly highlighted the oversupplied environment, and concerns over storage. At the time, storage at Cushing was around 79% full, but clearly less was available, with space booked up in anticipation of large stock builds in the future.

Having now seen negative prices, the question is whether we could see a repeat this month for the June contract. While it initially appeared we could, with storage expected to be an even bigger issue, dynamics have changed somewhat. The scale of stock builds at Cushing has slowed down more recently, while we are seeing some early signs that demand is starting to recover. This is evident with a pick-up in refinery run rates in the US, along with a modest increase in gasoline demand.

Meanwhile, on the supply side, a number of US oil producers have announced production shut-ins, with some of these reductions starting in May already. The gradual demand recovery, along with falling US supply should slow the rate of inventory builds from the US in the weeks and months ahead, reducing the prospect of negative WTI prices.

Furthermore, market players have been very cautious about holding a position in the WTI June contract, which will expire later this month, fearing that we could see a repeat of the May 20 expiry. Open interest has fallen significantly in recent weeks, with positions rolled further down the board, this should mean market participants who do not have the capability to take physical delivery will likely not hold their position in the final days of the contract’s life.

There has also been growing interest over the prospects of negative prices for ICE Brent. While this is possible, we believe that this is unlikely. Firstly, ICE Brent is cash-settled, and so the urgency to close a position ahead of expiry is not as strong, given there is no risk of having to take physical delivery, unlike the WTI contract. Secondly, Brent is a seaborne market, and so does not suffer from the same capacity constraints as the WTI landlocked contract.

Meanwhile, from a fundamentals perspective, it seems that there has been a shift in at least global floating storage for crude oil, with total floating storage having fallen for the first time since March. Although admittedly it still remains near recent record levels, and we would need to see several weeks of consecutive declines to confirm a change in the trend.