Good morning. Oil futures are hovering around US$100. The price of a physical barrel of oil has been north of $140. In focus today: Which price matters?
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Oil futures suggest traders expect the U.S.–Iran conflict to ease; the price of physical barrels shows a market still scrambling for supply as the Strait of Hormuz remains blocked.Reuters
In focus
What it means when oil prices split between now and the future
Brent crude has risen and fallen on escalating U.S.–Iran tensions and a ceasefire. But with tanker traffic still halted through the Strait of Hormuz, The Globe’s Jeffrey Jones reports, physical oil prices have surged toward US$150, exposing a widening gap between futures markets and real supply.
What explains that gap – and which price carries through to the economy?
Oil futures
Or “paper barrels,” are contracts that represent what traders believe oil will soon be worth.
A trader buying a contract for delivery in June is taking a position on where prices will settle over the coming weeks, weighing the disruption against the release of emergency reserves, falling fuel consumption and the possibility that flows resume.
The price embedded in that contract reflects an expectation that current shortages ease even as the U.S. blockade on Iranian ports and renewed threats from Tehran are straining a week-old ceasefire agreement.
Physical barrels
Those futures contracts are overwhelmingly bought and sold before any delivery takes place, as traders exit positions at a profit or loss rather than taking possession of actual oil. (Although, it’s fun to imagine a bunch of barrels being rolled down Bay Street.)
The pricing of physical barrels is driven by the amount of crude that can be delivered where it is needed, when it is needed. Locking in a future price does not ensure that a shipment arrives.
Refiners that lose expected cargoes must find replacements in that market, competing for a reduced pool of accessible supply, and prices rise as buyers bid for whatever oil can be delivered immediately.
That’s the “spot market” – a network of private trades between refiners, producers and trading houses negotiating for cargoes deliverable within days or weeks.
In a disruption, most paper traders have already cashed out on their positions, leaving the physical market to those who still require crude to keep refineries operating.
Those spot transactions set the cost refiners actually pay – costs that move quickly into fuel, transport and, ultimately, consumer prices.
The price of convenience
Under normal conditions, oil for immediate delivery trades at a modest premium to futures – a structure known as backwardation – reflecting the value of having barrels on hand. The disruption in the Strait of Hormuz has pushed that dynamic to an extreme.
The loss of roughly 10 million barrels a day of supply, according to the International Energy Agency, has created what traders describe as a “blowout” – shorthand for the gap between spot and futures prices. That is, the price for buying barrels right now instead of what traders think that price will be in several weeks.
“The longer that gap remains, the longer and more widespread the damage will be,” Jones told me.
An image of Earth captured this month by the Artemis II crew. The oil shortage is hitting some countries more than others, but a squeeze on global supply pushes costs across borders.NASA/Reuters
What’s a world to do?
One of the largest disruptions to physical oil supply in recent history is already affecting fuel availability in exposed regions and is spreading through the global market. Yesterday, the IMF warned that the shock could push the world toward recession if high oil prices persist.
Canada and the U.S.
As an oil-rich country, Canada is largely insulated from a direct shortage of physical barrels because it is a net exporter. The United States, too, is protected from a direct supply shock by its position as a leading oil producer.
Import-dependent economies
The shortage of supply is particularly acute among smaller, import-dependent economies in Asia, where authorities are imposing strict measures aimed at stretching what meagre supply of oil they might have.
- Pakistan has reduced fuel consumption by cutting working hours and closing schools, an attempt to lower demand quickly in the face of constrained imports.
- Bangladesh is imposing fuel rationing for vehicles and closing universities to stretch fuel supplies.
- Until early this month, Sri Lanka declared every Wednesday a public holiday for public institutions in an effort to curb energy usage.
- In Myanmar, you can drive your car on an even-numbered date if your licence plate ends in an even number. Odd numbers have the odd dates.
China and Japan
In two of Asia’s two largest economies, which are reliant on imported crude from the Middle East, policymakers are much better positioned to cushion the blow – but at the cost of drawing down finite buffers.
China has drawn on large strategic reserves built up before the conflict.
- And Beijing has Moscow. At a news conference yesterday in the Chinese capital, Russian Foreign Minister Sergei Lavrov pledged support for China to avoid energy shortfalls.
- “Thank God, we and China have all the capabilities, both those already in use and those in reserve, and those planned,” Lavrov said, “to avoid being dependent on this kind of aggressive adventure, which undermines the global economy and global energy.”
Japan, which relies on the Middle East for roughly 95 per cent of its crude supply, has already tapped its reserves multiple times and announced yesterday that it is preparing a $10-billion financing package to help Southeast Asian countries secure oil.
- Stabilizing supply in neighbouring countries reduces the risk that regional shortages feed back into Japan’s own energy costs and supply chains.
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More files we’re following
By the numbers: Statistics Canada reports new motor vehicle sales for February. Economists are expecting a slight rev of the engine compared with the same period last year. China reports GDP, retail sales, industrial production and fixed-asset investment.
Morning update
Global markets were on the rise as optimism grew about a deal to end the Iran war, while traders digested a buffet of economic data and critical earnings reports.
Wall Street futures were in positive territory after the S&P 500 and Nasdaq pushed to record high closes yesterday. TSX futures edged lower.
Overseas, the pan-European STOXX 600 was up 0.29 per cent in morning trading. Britain’s FTSE 100 rose 0.6 per cent, Germany’s DAX gained 0.54 per cent and France’s CAC 40 advanced 0.44 per cent.
In Asia, Japan’s Nikkei closed 2.38 per cent higher, while Hong Kong’s Hang Seng advanced 1.72 per cent.
The Canadian dollar traded at 72.81 U.S. cents.