Introduction to Petroleum Futures Trading

Even the least developed modern economies can hardly underestimate the importance of oil. No single substance can provide more energy per unit of extraction cost. Oil is abundant and proven, and it is likely to remain the most popular energy source on earth for some time to come.

The International Energy Agency expects total consumption in 2020 to be 91.9 million barrels per day. Oil is traded in a complex market, and there are many tools and tools for investment or speculation in oil.

One way to speculate on oil prices is through oil futures trading.

Key points

  • Oil is abundant and proven, and is likely to remain the most popular energy source on earth for some time to come; one way to speculate on oil prices is through oil futures trading.
  • The increasing frequency and regularity of oil contracts make it easier for investors to determine the trend or expected trend of the final price of oil.
  • There are countless variables that determine the final price of oil, but our brains can only weigh the most obvious variables, such as the current price of oil.
  • To trade oil futures, you need two often very different characteristics: patience and boldness (and substantial cash flow).

How does oil futures contract work?

Oil futures contracts are simple in theory. They continue the long-standing practice of certain participants in the market selling risks to others who are willing to buy to make money. In other words, the price established by buyers and sellers is not today, but the trading price of oil (or soybeans or gold) at a certain date in the future. Although no one knows what the price of oil will be traded in nine months, the participants in the futures market believe they can.

For example, suppose that commodity X, which currently sells for $30, sells for $35 in a contract that expires in January next year. A speculator who believes that the price will actually exceed that price, for example, to $45, so he can buy a contract for $35. If their prediction is correct, they can buy X at a price of $35 and then immediately sell it for a profit of $10. But if X ends up below $35, their contract is worthless.

Similarly, for some investors, a futures contract is a way to get a guaranteed price of $35 in the future; for them, even if X drops to zero, one in their hands is better than two in the bush. The person on the other side of the transaction agrees with another axiom: there is no risk, no gain. If X rises to US$100 or even US$200, speculators betting on X will settle at US$35, and they will get several times the return of their investment. The price at which the commodity is expected to be sold on a subsequent date is self-evidently called the “futures” price, and it may be very different from today’s price.

Unlike most agricultural products, oil futures are settled once a month. For example, other futures contracts may only be settled four times a year. The increasing frequency and regularity of oil contracts make it easier for investors to determine the trend or expected trend of the final price of oil.

In September 2020, the oil transaction price was approximately US$40 per barrel, more than US$100 lower than the highest oil price.In December 2019, the price of oil trading was approximately US$60 per barrel. Demand in some parts of the world has recovered, but the forecast for demand in 2021 has been adjusted in accordance with the weakness of the aviation industry. It is estimated that the global oil demand in 2021 will be 97.1 million barrels per day. Globally, product inventory levels are still high.

At the same time, increased drilling in the United States has reduced the importance of foreign cartels’ threats and manipulation. Knowing this, what should futures investors do? Suppose the price will continue to fall in the short term, or we are close to the point where the price is close to the cost of production, so there is no other way but to rise?

Can you predict the future through futures?

In October 2020, the next month’s futures contract (November 2020) will sell for 40.25 USDThe price of the next month (December 2020) is US$40.53; January 2021 is US$40.88; February 2021 is US$40.22; At some point, two years later, the price of oil (or at least the level predicted by the futures contract) The oil price) is expected to reach US$43.46 per barrel.The rise does not stop there. After the two-year mark is exceeded, the number of settlements for oil futures will decrease every six months or even every year, instead of monthly settlements. The latest available contract price in 2031 is US$50.34.

Two things: First, predicting market trends 10 years from now is like predicting the weather or the outcome of the Super Bowl in advance.New England Patriots possible Participate in the game in 2031, or they can easily lead 1-15: The vast majority of players on that team are unknown and are currently in college or even high school.

The world of 2031 will not have enough similarities to today to warrant prediction. However, there is an oil futures market in 2031, although history shows that predicting such a distant price is a dangerous game.

Only with hindsight Zhuge Liang is 20/20

To see how dangerous it is, let’s look at the September 2010 futures market’s view of oil prices in 2015. In that month, the trading price of oil futures in December 2015 was $89. So why not? US$89 represents close to the level of US$76 per barrel of oil at that time, and there is a premium of a few US dollars to predict the continuation of the upward trend. This makes perfect sense. Apart from no one, or at least not enough people to make an impact, no one predicts that increased production will push oil prices down to 2015 levels.

Of course, if enough people can foresee this, the futures price will never be close to $89 at the beginning. There are countless variables that determine the final price of oil, but our brains can only weigh the most obvious variables, such as the current price of oil. We can make some accurate predictions a month or two in advance, but this is a straightforward roulette game, trying to figure out what oil will do once the other four Olympic Games and another or two presidential elections come and go.

The market offers few guarantees, but even InvestingClue’s well-known prudent legal advisers will support this: the actual price of oil will fluctuate much more than the relatively narrow price range indicated by upcoming futures contract trends. Gradually rise to 50.67 US dollars, the lowest price is 45 US dollars? Don’t bet on it. How can we be so sure?

On the one hand, the futures trend only develops in one direction. Every change, no matter how gradual, is positive.Of course, oil possible For the next eight years, prices have been rising without any decline, but in any such period of time before, it has never done so, and common sense suggests that it will not.

Bottom line

To trade oil futures, you need two often very different characteristics: patience and boldness. You also need a lot of money to get started. Oil futures contract Not in barrels, but in thousands of barrels. The future in December 2031 will cost you $50,670, but in return, you will get a liquid asset whose value will undoubtedly fluctuate between now and maturity. This means having enough time to potentially realize profit, or waiting and wondering if you have made a stupid decision. Either way, oil futures trading is not suitable for laymen.

.

READ ALSO:   Lithium mining: dirty investment or sustainable business?
Share your love