Nathan Hunt: This is the Essential Podcast from S&P Global. My name is Nathan Hunt. On Friday, the price of oil was comparatively low at a little over $18 a barrel. Today, Monday, an unprecedented occurrence: oil fell into negative territory with a reported settlement price of almost negative $38. Two weeks ago, I sat down to talk to Chris Midgley, Global Director of Analytics at S&P Global Platts to get his thoughts on the oil price war. Now, after recent events in the oil markets, I reached out to Chris again. Chris, thank you for coming back on the podcast.

Chris Midgley: Great to be with you.

Nathan Hunt: What happened?

Chris Midgley: Well, indeed, I think first of all, we need to be clear here what oil prices we're talking about. We are talking about the NYMEX WTI contract, which is a contract which is to deliver oil into Cushing. When I last spoke to you, we talked about Cushing stocks being almost full, probably three weeks till they're full physically. But reality is, is there's very little storage available for anybody to rent, and therefore anybody caught with being long in the contract as we go into expiry tomorrow, we'll have to except oil to be delivered in Cushing. And if they don't have that storage, well clearly, they have a problem. They have to get out of that contract before tomorrow. And today really was a case of panic selling that drove the market rapidly down into the negatives and just continued falling. So that settled today at -$37.63. 

Nathan Hunt: Most of the time when oil is traded, it isn't actually barrels of oil that's being traded. It tends to be futures contracts. Is this a case where the fact that most oil is only being traded on paper, is that part of what caused this price collapse?

Chris Midgley: In part, I think it is to do with that, but it's also to do with the fact that WTI, the NYMEX contracts, CME contract, can be effectively delivered and you have the choice to allow the contract to go to expiry and deliver physical oil into it. Other contracts go to expiry and you match off the longs and the shorts in the markets. If we look at what the contract was doing last week, we had the spread between May and June. The difference in the May price and the June price at minus $7 a barrel. Now, what that says to any trader, that's really wide, because if you can take the oil physically in May and store it for a month, you're going to earn $7 a barrel. You know, multiples over the cost of storage, so you can make a huge amount of money and any trader looking at that would have said, Well, that's not going to get any wider than minus seven. But what has happened, therefore, is that traders have bought that the May-June spread going long May, and on Friday we had 108 million barrels of open interest, therefore 108 million barrels of length that some traders are holding. A long the contract, they own the contract versus 108 million barrels of shorts in the contract. And so those traders who are effectively long have got to buy back the contracts to balance it off. And what's happened today as we go in with one day left to expiry. Most of those traders do not have the physical ability, either because they don't have tankage or oil, they don't have the physical ability to take the oil physically, so they have to close those positions out. And with one day before expiry, what we saw was that the settlement day was that minus $37.63. It collapsed all the way from the high teens down to there over the weekend and into today, effectively widening out that May-June spread from minus seven to something like minus $58, which means that someone is making a lot of money, but on 108 million barrels of length someone is losing a lot of money to the tune of being half a billion dollars of loss in the certain positions potentially around us. So to answer your question, effectively, a majority of the WTI contract will trade like a standard, a futures contract, but because you have the ability to deliver, there's always a fear of being caught and being forced to take that oil when you don't have storage, and then you have to pay a huge price.

Nathan Hunt: What would a trader do who was forced to accept the oil delivered? Is there anything they can do or are they just stuck trying to find storage for that oil?

Chris Midgley: It's a great question and one that we've been scratching our heads to try and understand, is there a floor price to this? Ultimately, right now, the floor prices, if effectively you need to go and sell that oil, effectively, you've got to look for a buyer out there and the buyer's just going to say, well, I'll just keep naming my price, as they did, and it keeps going lower. Now if you said, look, I don't actually have storage, but you're now at minus $37.63 versus the next month, which may be at 17. You know, then you could just say, well, hold on. Maybe I could find somebody who's got some storage and pay them a pretty handsome sum to say I'll rent your stories for a month. I'll take the delivery of the oil and then I'll get rid of it. You know, you can easily spend a lot less than $50 trying to do that. But the problem is many of these traders really just don't know the physical market. They are paper traders. They've not touched physical oil. I mean, it's just like equities--you know, they don't think of it as the actual physical side. So they really just don't have the capability to do that. And the other thing is many of them will also have what we call stop losses. A point where the market gets so wide, they have to get out of the possessions, sort of rules that they have set by the companies to avoid taking on big losses and so they are forced effectively to unwind those positions, and effectively sell the length they have. It's the fact that in general, we don't see very much oil getting effectively delivered into the contract. It's usually very small volumes that are left, having not been balanced at the end of the contract period.

Nathan Hunt: As far as you know, does anyone actually have excess storage capacity at this point in time?

Chris Midgley: There's plenty of stories. We've been writing about Cushing being physically full in three weeks. It's been filling up at about a rate of 6 million barrels per week. Now that's huge amount, because, I mean, these are record fills and that means with about 18 to 20 million barrels of storage left available, it could be full in three weeks. So, you know, there are plenty of traders who are sitting currently on some storage, which they own and they are ready to fill, but they probably have physical deliveries and plans to take that already from their own production, et cetera. And you know, not necessarily playing in the futures market. So it depends whether they're willing to offer that storage. But again, let's put that in context around maybe 20 million barrels out of the long position here, or the open interest, I should say, of 108 million barrels. So orders of magnitude, the amount of open interest on the CMA exchange was huge on Friday. It will be interesting to see what it's looking like tomorrow from the close today. How much of that open interest has been closed out and how much is left to trade tomorrow?

Nathan Hunt: I know that it's hard to tell because all of this came up today, but can you tell how much of this negative $38, how much of this is stop loss? How much of this is people just trying to get out of contracts and pay their way out of contract? And how much of that is still to come?

Chris Midgley: We'll get a good feel for it when we get the data on how much open interest there is left in the market. As I said, that tells you how many of those 108 million barrels are being closed out and how much is left to be closed out on the final day. It's interesting that it's all happened a day before expiry, so clearly that panic set in. But in fact, this was already happening on Friday. I was watching as the WTI front-month was already coming off really fast compared with all the rest of the oil contracts. So you could see that people were starting to get nervous and want to get out, and of course, as May-June, therefore blew out faster and faster, people realized that that wasn't such a good buy and they started to get out of it. So all of today's action is clearly stop losses as people have tried to get out of their position. And it will be interesting to see how much is left open at the end of this and needing to be delivered into Cushing. Usually these are very small volumes that are left to close out. That may be the next record to be set in a month of records as far as commodity markets are concerned. You know, we may see the largest volume of that has to be delivered into the contract and they'll be interested to see whether they all can be--those people who've got those long positions can take all that oil.

Nathan Hunt: Do you think as we move a couple of days past the expiry, you know, to a certain extent renewal of some of these contracts, we will actually see the price of oil returning to a new normal range?

Chris Midgley: I think the question is, what is the new normal, Nathan. Right now you have a futures market trading, let's take the ICE front month Brent is currently trading at positive. Need to be clear now, it's positive. $26.05. And the dated physical Brent today settled of the $19.09 a barrel. So there's already a big spread there between the futures and the physical. You know, what we're seeing right now is what we talked about in the previous podcast. The fact that there is just too much supply in the market. Demand has been hugely impacted by the coronavirus, and ultimately price has to affectively be the action that slows down production because even with these large cuts that have been committed by OPEC and Russia and to a certain extent, sort of some verbal agreements with the likes of the US and Norway, the market recognizes those aren't enough. Because effectively we're running out of buyers, we're running out of storage, and we're running out of ships to put all this on. And when you get to that situation, the price is just going to fall in order to stop the production happening, irrespective of agreed production cuts between OPEC plus or OPEC plus plus, as they're now calling it. So indeed, when will we get back to the new normal? We will get that when we start to see supply and demand rebalancing in the market. And that may not be until August, September time.

Nathan Hunt: When we last spoke, I asked you about the price implications of the Russian-Saudi oil price war. You told me, "it's all demand," that the price was being driven by demand. Is this demand, is a lack of demand doing this?

Chris Midgley: Absolutely. The reason why we're seeing the huge stock bills in Cushing as a consequence of that catastrophic drop in demand in the US which has seen refinery runs dropping new lows, 17-year lows. And therefore, just no demand or lower demand for the crude. And so that crude is therefore being filling up the Cushing storage faster than ever before. And as I say, heading towards tank tops within the next sort of three weeks. So, it's huge complete vacuum that's being created by that being these lockdowns, and as these lockdowns increase around the world since we've spoken, that's increased further. Bit more lockdowns in India, Brazil, Latin America, Africa, now. All of that has more and more impact on demand and we have a bigger and bigger problem as to what to do with all the, you know, short term supply of crude.

Nathan Hunt:  What options, if any, do OPEC and other oil producing countries have at this point in time?

Chris Midgley: Well, the only option is to slow down production. And really, this is what is playing out right now. Negative prices are not something unusual. The US has been used to the and the gas markets where basically you've had to pay for people to take away your gas and particularly in Waha. So it's not a novel thing to happen. First phase is are you willing to pay for someone to take this out? Now why do you have negative gas prices? It's because the gas is a byproduct of oil production. So to get the negative prices in oil is a logical, you will stop your production as soon as you can. You're just at the moment in a bind where you can't do anything with it. But ultimately lower oil prices is what we're going to have to have in order to stop more of the activity in the US shale producers, who right now are still producing relatively high amounts of oil, even though they've cut the capex, even though they've cut the rig counts, and the frack crews, none of that impacts today's production unless you really start closing in existing wells. And eventually at these sorts of prices, you may well see producers choosing to close in their wells, see more Canadian production be closed in, or shut in, as we call it, and eventually seeing that help balance the market. The place that the OPEC is how much do they contribute because they need to contribute because the gap is so large, but how much does that do they take on versus forcing the rest of the market? Other producers, in the US, Brazil, West Africa, North Sea, to also be forced to close in, and those other producers tend to respond more to price and clearly here's a very strong signal to them that if they don't start to wind back some of that production, they're going to face negative prices to force them to take action if they don't take it now.

Nathan Hunt: Will there be follow on effects? Where else might you expect to see this play out in energy markets?

Chris Midgley: I think it's the CME WTI contract is relatively unique. You have less options with it. It is a delivered contract versus a settled contract where there isn't an exchange of physical. Clearly, you could see this occur in, I mean, maybe Brent, or Dubai could see this sort of behavior occurring, but not to the same magnitude I think that we're seeing here with WTI. Now, that may be famous last words. But certainly, what we are going to see is huge volatility. We're seeing it already with Brent's market, where lack of buyers is meaning that sellers are unwilling to come out there with their oil because they know there's not a lot of buying interest and they don't want to be selling into a vacuum and see the price collapse. So they try and hold those barrels, take them into their own equity positions. Well, sell them elsewhere into other parts of the region, which are choices they can play. So it's probably more options that you have on other contracts to avoid this sort of huge runaway off the market that's occurred on this expiry.

Nathan Hunt: A lot to learn here and a lot to understand. I really appreciate you taking the time to get back on with us today and explain that I won't be getting $38 just for accepting a barrel of oil in my backyard.

Chris Midgley: Unfortunately, not unless your backyard happens to be Cushing.

Nathan Hunt:  You for listening to The Essential Podcast from S&P Global. For more coverage of oil markets, please visit spglobal.com/platts-live.