Long before Descartes dismissed imaginary numbers as nonsense, the Greeks derided negative numbers as “meaningless” — there’s no such thing in the real world. Last week, the Chicago Mercantile Exchange announced they would allow futures to trade in the negative, and they promptly did, with the May futures contract for West Texas Intermediate Crude (WTI) going below $0 for the first time ever. But, what does that actually mean? In short, it means that people holding contracts to purchase oil in May are willing to pay other people to take those contracts off their hands. A “futures contract” is an actual contract to buy something at a future date at a certain price — hence the name. As I write this, yesterday’s closing price for WTI futures for June through December was $21.43, $27.17, $29.31, $30.52, $31.46, $32.15, and $32.97. Essentially, it’s a bet on the future price of the commodity. People think they can buy oil for $21.43 in June and make money at that cost point, and they think they can make money at $32.97 per barrel in December. But yesterday, the price for May closed at negative $14. What happened? Well, a futures contract is a contract. You have to buy the thing at the date. When it’s a stock option, that’s one thing, but when it’s a commodity, you have to have somewhere to actually put the thing you’re buying. Because of the reduction in consumption of oil, people’s containers aren’t emptying quickly enough, and so people who owned contracts to buy more oil in May need to get rid of some of those contracts, because they don’t have enough space to put the new oil. Normally, this would happen to a handful of people, and the price of oil would go down, and all would be swell — but in this case, no one was prepared for a global slump in oil prices and a global pandemic-driven lockdown, so everyone is out of storage space.
Last Monday morning, May oil futures were trading at around $1.20, meaning you could buy oil now and sell it in September for a 25x return on your money. That situation was leading people to buy May oil futures and rent giant tankers that they planned on putting the oil in and setting adrift until September or October. These giant tankers that hold around 2 million barrels each can be rented on six-month contracts. The price was about $29,000 per day, a year ago. Last week, the price was about $100,000/day. The way the math works out, for every dollar in spread over a six month contract (e.g., the difference between the May futures price and the November futures price), the tankers can charge about $10,000 per day more without wiping out the profit. So … everyone who could, bought oil … until they ran out of tankers.