More oil is put into storage, waiting for prices to rise
Record contango pushes up oil inventories; Cushing stockpiles at their highest
By Moming Zhou, MarketWatch
Last update: 6:10 p.m. EST Jan. 12, 2009Comments: 181NEW YORK (MarketWatch) -- Oil producers, refiners and investors have put a record amount of crude oil into storage at a key delivery point as they try to profit from an unusual form of "super contango" that indicates the market expects prices to rise sharply by summer.
Inventories in Cushing, Okla., the delivery point for futures traded on the New York Mercantile Exchange, have jumped more than 40% in the month ended Jan. 2 to the highest level in at least four years.
Such stockpiling reflects the wide gap between the price of oil for delivery in the next month and contracts to deliver oil later this spring and summer. On Monday, oil for February delivery closed at $37.59 a barrel on the Nymex, or nearly $15 lower than July's contract price. Read more on oil prices.
This situation, where the price of a near-term future contract is worth less than oil for delivery in several months, is called contango. It's the norm in oil markets, with the price gap representing the cost of storing the oil and locking up investors' money.
But such a distance between contracts is unusual, sparking industry insiders to term the phenomenon -- which reached an apex in late December - "super contango."
When the price spread is greater than the storage cost, "there is an opportunity to arbitrage at a profit without risk," said James Williams, an economist at energy research firm WTRG Economics.
This gap between near-term and far-off future prices reflects expectations that oil will rebound as major producers cut output and international economic stimulus efforts breathe life into the global economy. At less than $38 a barrel, oil is currently trading nearly $110 lower than its record high hit in July.
So instead of selling oil at a depressed price amid sluggish demand, more producers and investors are hoarding oil for future sales.
Those stockpiles are showing up in ballooning inventories at Cushing.
"When the market flips into contango, meaning the current month is less expensive than the month going forward, people start putting crude into storage," said Jeff Mower, editor-in-chief at Platts Oilgram Price Report.
Contango "creates a financial incentive to store more barrels."
And as the current contango widens, as analysts say is likely, Cushing could run out of room.
Maximum storage capacity in Cushing is about 42.4 million barrels, but only about 80%, or roughly 34 million barrels, of that is operable storage space, says Linda Rafield, senior analyst at Platt. With 32.182 million barrels now sitting in Cushing, the market appears poised to test the limits of storage capacity there.
Traders will get more information on oil stockpiles in the U.S. government's weekly energy report Wednesday.
Super contango
The ongoing economic turmoil has pummeled oil prices and created record levels of contango. On Dec. 19, the expiring January contract ended at $33.87 a barrel, $8.49 lower than the February contract. That's the widest contango between two successive months' contracts, according to Platts.
With a price gap that big, oil investors can pocket lucrative profits by simply buying the January contract, taking the physical oil delivery and storing it, and at the same time selling contract under the higher-priced February contract. When that contract expires, they can deliver the oil they've had in storage since January.
Meanwhile, the oil storage business has thrived as energy players sock away plentiful crude to wait out the current price trough.
Bruce Macphail, director of contract terminals at Enbridge, said the company's 15.5 million barrel storage capacity at Cushing is nearly full. He said the company holds contracts with a variety of energy companies ranging in length from six months to several years. Read more on oil storage.
Rising inventories
Beyond Cushing, oil stockpiles are also on the rise across the nation.
Total U.S. commercial inventories, or oil held by producers, refineries and other users, jumped 6.7 million barrels in the week ended Jan. 2 from a week ago to hit 325.4 million, the highest level since May, 2008.
Refineries, meanwhile, are scaling back their production to wait for demand and prices to rise. U.S. refineries operated at 82.5% of their totally capacity of 17.6 million barrels a day at the end of last year, the lowest utilization rate since October, 2008.
Futures markets indicate gasoline prices will rise in the following months. On the Nymex, the September reformulated crude contract closed at $1.3506 Monday, or 25% higher, than the February contract.
At the pump, regular gasoline averaged at $1.79 a gallon Monday, up 13 cents from a month ago, according to AAA's Daily Fuel Gauge Report.
Moming Zhou is a MarketWatch reporter based in New York.