Oil: invest now with shock prices? Maybe not

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Oil price collapsed, the agreement of April 9-10 was not enough to keep prices at least stable: investing now in oil with ETFs or something else? Analysts do not see a bright future for crude if production activities do not resume first.

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It was not since 1999 that such low oil prices have been seen. This negatively affects the performance of the stock exchanges, unable to absorb the chinese central bank’s rate cut (primary one-year loan rate from 4.05% to 3.85%, five-year rate from 4.75% to 4 , 65%). Investors are concerned about the development of the coronavirus crisis in the world: consumption, industrial production and transport in contraction, therefore the price of oil collapses because demand is too low compared to supply.

The reasons for the collapse in the price of crude oil

The agreement between Opec+ and US oil companies is not enough

Investors were thrilled at this further black gold collapse after the agreement a few days ago between the leaders of OPEC+ and the american oil companies. Just starting from the decisions taken in the meeting, we can identify the main cause of the heavy shorting of crude oil prices.

The cut in the supply of 9.7 million barrels per day is little compared to the dramatic drop in demand, destined to continue given the forecast of world GDP falling due to the coronavirus crisis. This creates a huge storage problem: storage facilities are reaching saturation despite refineries having reduced oil extraction by 30%.

According to Bloomberg, 57% of the maximum extraction capacity was reached at the Cushing storage center in Oklahoma, which is the sorting point for texan crude oil (WTI). With 160 million barrels on board the ships, the oil majors are thinking of selling at bargain prices in order to get rid of the load and this would inevitably push the price forecasts even lower.

The low oil prices can also be explained by the lack of confidence that the traders have on the maintenance of the agreement by the russian and saudi producers, but also by the american ones. The texan refineries continue to extract despite the contrary indications of Washington, the Saudi companies persevere to apply discounts to customers in different Asian areas.

Significant reduction in transport and travel due to the coronavirus pandemic

Furthermore, the pandemic, writes The Economist, will change workers’ habits: with the development of smart working there will be less movement by car and plane, therefore less demand for fossil fuels. For this reason, some large energy companies – for example the italian Eni, among the first in Europe – could convert a large part of production into alternative energy.

The effect contango on WTI oil

Finally, we must consider the contango effect that has occurred on WTI futures, an effect that has pushed the quotation of texan crude oil much lower than in Brent. This was due to portfolio adjustments made by an american hedge fund, the US Oil Fund, following requests from the SEC. The fund began to invest on futures contracts expiring in June, liquidating those expiring in May from Friday 17 April: oil prices collapsed precisely because the operations were set up by the largest oil ETF worldwide (the fund controls 25% of positions on the WTI).

Oil: should you invest now?

The current price of crude oil is very tempting for investors, there is no doubt, but it will be very important to evaluate the timing of the recovery in prices. In the last period, american shail oil has gone from a structural excess of 1 million barrels per day (2019) to 7 million. Before the pandemic, the market was struggling to absorb 100 million barrels per day, at present there are discoveries of 30 million barrels to be disposed of per day.

The unknown is whether the exit from the lockdown and therefore the recovery of all the main production activities will be able to at least partially fill this gap.

Again according to the Economist, the agreement of April 9-10 is based on fragile bases, therefore it is totally insufficient to revive the crude oil prices. Much will depend on Trump’s next moves, very interested in the support of the producing states such as Texas, Pennsylvania and Ohio, for the re-election to the November presidential elections. So in his ability to find solutions to dispose of stocks.

In March, most analysts were forecasting $ 30 a barrel as the average price for 2020, but presumably the estimates will have to be revised: some predict that oil will drop below $ 10 a barrel. Furthermore, the contango effect that inevitably distorts prices must be considered.

According to Bloomberg, investing now in the WTI may be fine for short-term speculators who take advantage of the volatility effect, while for investors who intend to keep commodities in the portfolio for a long time this can prove to be a trap precisely because of the contango. In fact, the negative roll yield that is determined by moving from a short to a long future will reduce the capital gain up to 30%. And this above all for the actions carried out in these days by the US Oil Fund.

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