Mother Jones - Comments for "Super Contango"

The oil producers are delivering now may be againist last summers futures, and at a price well above $53.

"Normally, it costs more to buy a barrel of oil for delivery six months from now than it does to buy a barrel of oil today."

Wrong. Normally, it costs less to buy a barrel of oil for delivery six months from now than it does today. (backwardation). Here's why: If I'm an oil producer, and I see higher prices in six months, then I'll leave my oil in the ground now, extract it later. Less supply now and more supply in six months means a higher price now and a lower price in six months, arbitraging away the "soft contango" that you call the normal state of affairs.
Additionally, if I'm a buyer of oil, I could buy oil for a given price right now, and be relatively certain that's the correct price. If I'm buying oil for six months from now, and locking in a price today, I'll be less certain the price is "correct", and will want to be compensated for the risk I'm taking on, which means I'll get a discount (attenuated by the cost of storing that oil) off today's price, all other things being equal.

number 3 (no claims for plausibility)

Maybe Saudi Arabia is punishing other petroleum exporters.

Let's pretend that they have spare capacity, and that they are pumping oil at a loss now (compared to keeping it in the ground). This can make sense (roughly anything can make sense) as a punishment for other petroleum producers who over-produced export quotas.

Or maybe they are trying to influence the Iranian Presidential election. Low oil prices are bad for Ahmadinijad. If they want him out and have plenty of money, well they will want to drive down the price of oil.

Liquidity preference!

" So that leaves #2: thanks to plummeting oil prices, OPEC countries are in serious economic turmoil and desperate for any cash they can get their hands on right now."

Without being snarky here, this seems strange, because it seems like exactly the situation that finance is supposed to help with - borrow using bonds secured against the oil in the ground.
While I imagine that plenty of people wouldn't trust a Nigerian government bond no matter what the hell it claims to be secured against. most of OPEC seem like reasonable credit risks --- especially if the bond is not a debenture (unsecured) but is specifically secured against a real asset.

Obviously, yes, there is less free cash than there used to be, there is political risk, blah, blah. But the numbers here are huge compared to the risks, which makes this as a full explanation seem problematic.

Kevin, your analysis assumes the value of money is constant.

If you add enough inflation into the equation, taking less now is better than taking more later.

If the Chinese, Saudi Arabians, and Exxon have liquidity problems who's going to buy our treasury bills?

Note today's news, Saudis have cut production by 2.2m b/d, 300k b/d more than they had promised.

In the previous price crunch in the 90s, other producers exploited this by increasing production, but I doubt the spare capacity exists now.

The world oil price is just another measure of the slump in the world economy that is taking place: less driving, less plastics etc.

asdf

Saudis have massive liquidity problems.

The fundamental issues at the moment are:

- storage is expensive, and full (hence filling oil tankers with oil, very expensively)

- no one will finance arbitrageurs wishing to store

A related problem, perhaps, is that international prices are decoupled from WTI prices because the oil hub in OK is not connected to the world market to a significant extent (physical limitations on imports and exports).

Wasn't there as much or more storage then?

Same amount of potential storage, different amount of oil in it. Read the article Kevin linked to.

I really doubt liquidity has anything to do with it. The Saudi's, the Chinese, and Exxon are much better positioned with cash than the rest of the world.

I do question what happens in 6 months if the price of oil is the same and the hedge funds buying petroleum futures have already been absorbed by TARP.

The obvious answer is that they might expect the price of oil to go up. Since the sellers are a cartel, they do have some say in the matter.

Is our strategic oil reserve full of $150/bbl oil?

I think it's a combo of 3 things, Boronx's point (counterparty risk), Scott Forbe's point (lack of sufficient credit to arbitrage it away) and a third somewhat related point. The third one is that financial services companies are some of the largest players in the arbitrage markets. Now that they're hunkering down and focusing on core business they don't have the money, credit or bandwidth to play the game.

Doug T why isn't there any cheap, easy to access short term storage? The world isn't using more oil than we did in 2007. Wasn't there as much or more storage then?

Your scenario of "saving" the oil in the ground doesn't make any sense. It's not as if producers only have 1 month's supply of oil and are choosing whether to sell it today or in 6 months. Rather, they're selling oil today and they will be selling more oil in 6 months.

Your conundrum is like wondering why, if there's a predicted shortage of computer programmers coming down the pike, with predicted salary spikes, then why don't computer programmers stop working now and store their labor, waiting to sell it at the higher salary level later.

And, from the commentary I've read, the price spread is feasible precisely because there's no short term storage available--a bunch of supertankers have been pulled offline and leased simply to store oil, and a number more are being bid on for the same purpose. But for most practical purposes, there isn't any cheap, easy to access short term storage.