Comments on Employment, Interest, and Money: Oil Futures: Money for the Taking?

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2011-05-14T01:47:16.991-07:00

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Is anyone familar with the convenience yield. I re...

2009-04-18T12:54:00.000-07:00

Is anyone familar with the convenience yield. I remember talking about it in derivitaves class. Anyways I forget all the details, but basicilly this is not unusual behavior for oil markets. Since people prefere to enjoy oil now rather than in the future they forgo entering into an arbitrage agreement.

Storage at Cushing actually dropped below 30 milli...

2009-04-17T14:05:00.000-07:00

Storage at Cushing actually dropped below 30 million barrels for the week ended April 10 according to the EIA, and NYMEX asserts they have about 40 million barrels of storage capacity, so I don't think its storage near delivery.

OTOH, commercial crude stocks built by 5.6 million barrels last week to the highest level of commercial crude holdings in storage seen since September 1990.

As Hermant pointed out, these are futures markets, not forward markets, and you are vulnerable to margin calls. Given that most don't want threats to their liquidity in the current market environment, and the historically huge price volatility of the front month contract seen in the last four months, oil is likely seen as a good way to get blown out by many.

Great comments. But they're all micro factors. A d...

2009-04-17T11:42:00.000-07:00

Great comments. But they're all micro factors. A demand shock knocked many markets way past equilibrium. Oil price is definitely one of the victims. It can take longer than usual for markets to reach a new equilibrium when liquidity is constrained.

First, as someone has previously stated, all of th...

2009-04-17T11:26:00.000-07:00

First, as someone has previously stated, all of the storage capacity that is near the point of delivery is saturated. (We've joked that we should take foreclosed houses, wrap them in bubble wrap and fill them with oil.) Even storage away from the points of delivery are full where people are taking delivery of oil or its products as inventory to take advantage of the contango in the market.

Second, oil wells are a tricky thing. If you don't produce them along an optimal "curve" you will get a less out of them at a greater cost over their lives. Most natural gas wells can be easily "shut in". Oil wells are typically shut in only at the end of their lives. (There are exceptions to this and you can factor in the costs of secondary and tertiary recovery techniques into your model.) This makes the production problem more dynamic than you have modeled.

Third, people who are selling need cash now. That is, their costs of borrowing are MUCH greater than the interest rate at which the Fed borrows. Many firms cannot borrow at all. The easiest form of "borrowing" is to liquidate valuable assets and use the cash raised as needed.

Finally, there are people taking advantage of this; however, the unexpected drop in demand has led to an avalanche of physical product in the system. The last time this happened was in 1998 and I would expect it to happen again sometime.

What if all the storage capacity are saturated ? M...

2009-04-17T06:26:00.000-07:00

What if all the storage capacity are saturated ? Maybe, this contango situation is reflecting an unprecedented level of inventories and limited possibility of extending those inventories ?

Geo political risk might be a big factor.. The ma...

2009-04-17T03:41:00.000-07:00

Geo political risk might be a big factor..

The market is TELLING you that consensus is $X/bbl. You can sell at that.. Sometimes you make more, sometimes you make less.

Further, you neglected transport costs. Futures are settled at the exchange, you must pay the truck/pipeline.

Not to mention opportunity costs.. But a house now for 70% off in some markets, or some of those distressed derivatives from the Govt.

My two cents on why the arb may not work 1) Some ...

2009-04-16T17:10:00.000-07:00

My two cents on why the arb may not work
1) Some larger players, with access to oil tankers are doing this. Obviously not on a scale to whittle this down. smaller players dont really have access to tankers and such.

2) These are futures - NOT forwards. So you need to cash settle daily - and liquidity is at a premium. So thats a risk.

3) The point about the oil producers isnt really true. They are constrained by how much the pipeline infrastructure can produce and are operating at 100% of capacity anyway. So if a producer produces one less barrel now, he still cant produce one more incremental barrel in dec 2010 [ because in any event, he plans to be at full capacity in dec 2010] Complicated game theory / prisoners dilemma between producers.

Make any sense?