Collapsing oil price highlights severity of crisis

Market forces were turned upside down this week with sellers paying buyers to accept barrels of oil. It is all a sign of the severity of the crisis but other signs indicate that the current crisis will be temporary.

In Denmark, homeowners have become accustomed to negative interest rates where borrowers are paid by lenders. But it took the world by storm this week, when prices for oil also went negative. In other words that some investors paid others to get rid of barrels of oil. 

”Oil prices collapsing with a fall of 300 percent, leading to negative prices, was the most spectacular event over the past week”, writes chief economist, Las Olsen in a recent analysis. 


No room for oil
If the price of a commodity falls a hundred percent, the price is then zero, which means that the commodity in question is up for grabs., free.  A price fall of 300 percent in other words means that the commodity is not only free, you are actually paid to take it. 

Negative oil prices accounted only for a certain corner of the oil market, specifically US WTI oil for delivery in May and to be picked up in Cushing, Oklahoma, Las Olsen explains. And one reason prices turned negative was that storage capacity for oil was running out, making it difficult for investors to offload contracts for future delivery of oil that they had bought to sell on with no intention – and no ability – to actually own and to store. 

”Negative oil prices are the result of oil storage capacity running out and that oil is inflammable and poisonous so you don’t just store it anywhere you like. Most likely, some investors have bought contracts for future delivery that they hoped to sell on, and they have suddenly had to pay to offload these contracts as there were no interested buyers and no more storage capacity available. Some has compared the situation to trying to sell your old garden furniture and ending up have to pay to get rid of it”, says Las Olsen.

Most likely, some investors have bought contracts for future delivery that they hoped to sell on, and they have suddenly had to pay to offload these contracts as there were no interested buyers and no more storage capacity available.

Las Olsen

Chief economist, Danske Bank


Demand has plummeted 

The price of Brent oil also fell heavily on Monday but never turned negative. And the general oil price decline is due to plummeting demand, says Las Olsen. 

”Most airplanes are grounded, many manufactories run on reduced capacity, and more than anything, fewer commute to and from work. In Denmark, consumption at gas stations is down by about 20 procent, though that is also partly due to lower fuel prices. But since the lower demand is seen as temporary, oil producers have kept producing, which is why storage capacity is now running out”, says Las Osen. 

He adds that OPEC, Russia the US has agreed to cut production output but that this has yet to be enacted and that the deal has many loopholes and weaknesses. 

A light in the dark
The plummeting oil prices seems to contradict the upward trend on global stock markets that have gained lost ground since march, signalling that the market is seeing light at the end of the tunnel. But this is equally true for the oil market, says Las Olsen. 

“The oil market also expect the crisis to recede fairly quickly, and future contracts for oil delivery a year from now currently trade at around 40 dollar a barrel, against a current price of Brent oil of about 20 dollars, and a price of 60 dollar as recent as February. It is the same trend we are seeing on stock markets. The markets expect economies to open up over the coming months resulting in a strong rebound and economic recovery towards pre-crisis activity levels. But we will not reach full recovery and the last stages of recovery will last years”, says Las Olsen.