Analysis

Low Season for Energy Commodities Might Save Them from Oil’s Fate

Will energy commodities be next to go into negative territory?

As the end of the working week approaches, it is fair to see these past five days have been a rollercoaster in the trading markets, with the US oil market experiencing negative prices for the first time in history, for not one, but two days.

Although the price of oil has since rebounded, the impact this historic movement had on the brokerage industry is still yet to be completely revealed. We do know that Interactive Brokers posted an aggregate provisionary loss of approximately $88 million.

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We also know that there is still more losses out there, as the US brokerage firm had around 15 per cent of the open interest in the May oil contract, according to its founder, which indicates that other brokers have suffered even more dramatic losses than Interactive Brokers, as the rest of the open interest faces losses.

Although some brokers had taken measures to protect against the more volatile trading markets, which picked up steam towards the end of February this year and have continued into April, it is fair to say that none were expecting the events that occurred on Monday which saw the price of WTI futures (West Texas Intermediate) for May fall drastically.

Will energy commodities be next?

As Finance Magnates reported, although the shock has mostly worn off for oil prices, traders and brokers are already preparing for the next market-first, which some believe could come in the form of energy commodities.

With lockdown measures significantly reducing the demand for oil, it is possible that WTI futures for June could end up the same as the May contracts. As pointed out by Charalambos Pissouros, the Senior Market Analyst at JFD Group, Brent oil is currently exposed to risk, as it is almost perfectly correlated with WTI.

To get further insight on this issue, Finance Magnates reached out to GO Markets, an Australian foreign exchange (forex) broker, for its insight on whether the price of certain energy commodities might also head into negative territory.

Tom Williams of GO Markets
Tom Williams, the Head of Trading at GO Markets
Source: LinkedIn

Speaking to Finance Magnates, Tom Williams, the Head of Trading at GO Markets explained: “… The unprecedented moves witnessed in the May expiry of West Texas Intermediate (WTI) Crude this week relate to storage constraints of the physically delivered product where production exceeded storage capacity. This left producers nowhere to store their crude.

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“The Brent Crude Oil market is slightly different in the way settlement occurs in that it is cash settled rather than physically settled. This means the buyer isn’t obliged to take physical delivery of crude which ultimately led to the overcapacity witnessed at Cushing, Oklahoma this week. That has contributed to relative stability in near dated futures of Brent.”

Heading into the low season

Furthermore, Williams pointed out that we are currently heading into the low season of demand in commodities such as Natural Gas in the northern hemisphere as summer approaches. Therefore, the market is already planning for reduced demand with these commodities.

“… I believe storage capacity is built to withstand seasonal demand. Also, being less exposed to the slump in transport demand I wouldn’t expect to see the same occurrence,” he added.

“The difficulty with oil production compared to other energy commodities (such as coal for example) is that it is much more difficult to halt production. There is no simple switch to stop production if demand subsides as compared to the production of some other energy commodities.”

GO Markets raises margin requirements

In response to the historic market movements, brokers implemented a number of measures to protect themselves and their clients against risk. This included closing positions on behalf of their clients, disabling new trades in affected instruments, raising margin requirements and more.

GO Markets, in particular, raised margin requirements in its energy commodities last week, the broker told Finance Magnates, in reaction to the high levels of volatility that had already been in the markets for months, before oil prices turned negative.

“GO Markets raised margin requirements in our energy commodities last week. Not to say that we expected to witness such unprecedented moves this week but it was evident that recent price action required tighter risk management in order to withstand such volatility,” Williams said. 

“We fortunately made that call in sufficient time of the troubled May expiries which alleviated credit risk, however the situation remains complicated and we are prepared to witness similar conditions in the upcoming expiries.”

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