We have seen a rise in questions about oil. As the prices have fallen, the level of questions climb.
Is now a good time to be looking at oil?
There are lots of questions, but very few answers right now. Earlier this week, crude was trading in the high teens/low twenties. It closed Wednesday April 22, 2020 at $13.88.
There’s lots of confusion because people are asking about crude prices, the price of the ETF and the futures contracts. These are three different things!
What really captured people’s attention was when the May futures contract actually traded negative (yes, below zero). The May futures contract settles in April. So, how did that happen?
We put together a video at Mullooly Asset Management about this. You can see that here. But wait, there’s more, below.
(don’t forget to subscribe to our youtube channel, too!)
What’s happening with USO (an exchange traded fund) is pretty unusual. It’s an ETF that owns oil futures contracts. It owned the May contracts, but rolled out of these contracts earlier in April. It now holds some June contracts (roughly 20-25%), July contracts (roughly 50%) and now August contracts (approximately 20-25%).
The big issue surrounding oil is storage.
There is NO place to store it, anywhere. One futures contract represent 1000 barrels of oil. Each barrel holds 42 gallons. That’s a lot of black gold, Texas tea.
If you own the futures contract for oil (or other “hard” commodities, like corn), you have to be ready to accept delivery of the contract shortly after expiration. So the “May futures contract” settles in April because in May you will be storing it some place.
Because the Saudis and Russia flooded the markets, there is no place to store oil right now. This is a problem. These two countries, along with the US, are the three largest producers of oil. And now there is no place to put it.
So as the May contract expired this week, people who owned the contract (“long”) were scrambling to get someone – anyone – to take that contract off their hands. There is no place to store the oil! This is why the May futures contract traded below zero.
And it’s possible the June contract may do the very same thing. In fact, how much would someone pay to lay off that contract/delivery? It’s possible (conceivable) to think a futures contract could trade infinitely below zero. (yes, infinite)
There is a LONG chain of tankers sailing across the Atlantic right now, from Madagascar toward the US. These tanker ships will arrive throughout the month of May filled to the brim. It HAS to go somewhere.
This is why Trump is considering a tariff on imported oil, and why Ted Cruz tweeted they “should turn those ships around!”
This is NOT the time to be speculating in this. Yet, online brokers like Robinhood and Interactive Brokers have seen a tremendous spike in people buying oil futures and the oil ETF (USO). This will end very badly for the individual investors pulling the arm on this slot machine. And for years the major oil companies have not seen their shares rise or fall because prices are rising or falling.
The creator of USO has declared there will be no new shares created for the ETF. Creating new shares is an important feature in making ETF’s work seamlessly. This move essentially converts USO from an ETF into a closed-end fund. Worse, it is a closed-end fund now trading at a significant premium to the net asset value.
Again, this will end badly for many.
This is truly terrible guidance (below) from the NYPost. But if you are getting your investment ideas from the Post, you have bigger problems.
https://nypost.com/2020/04/22/heres-how-to-invest-in-oil-if-you-want-to-take-a-big-risk/