Submitted by Taps Coogan on the 20th of April 2020 to The Sounding Line.

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Kyle Bass, founder of Hayman Capital Management, recently spoke with CNBC about the historic overnight dip to $0 a barrel for West Texas crude and the problem that oil ETFs are creating for oil market pricing. Namely, he argues that the current state of deep contango in the oil market (spot prices are negative whereas the next month’s future contract is still over $20) is being exacerbated by huge retail flows into oil ETFs as people speculate on a bottom in the price. The largest oil ETF, USO, now owns nearly a third of the open interest on the June oil futures contract and, because there is simply no way that USO (or anyone else) can take physical delivery of that much oil with storage capacity already full, they are exacerbating the contango of the market and essentially buying oil futures at a significant premium to the negative ‘spot’ price.

 

Some excerpts from Kyle Bass:

“The Wuhan virus has destroyed somewhere between 30 to 25 million barrels a day out of 100 million barrels of demand. If you look at US storage… everything is basically full… or spoken for and there is nowhere to put it. So on these days when futures contracts expire, you have to be a physical owner… So today, if you were to buy this contract and hold it when the market closed today, you would have to actually have a storage facility somewhere. Well, they’re all full…”

“So now we look to the next month and the next month is a June contract that expires on May 19th and the real distorting factor here are the US oil ETFs. Just one, USO, owns 31% of the open interest in the June contract. It owns a third of every contract that’s out there today and they have to sell those things before the contract period ends… The reason that June crude (oil) is at $21 a barrel and May crude is at negative $38 a barrel is this distortion.”

“Retail has been plowing into these oil contracts thinking that they are buying spot crude oil when they are buying the next front month. So, they’re paying $22 a barrel when the spot market is negative $38. So, retail investors are going to get fleeced if they keep piling in to these oil ETFs.”

“We have been short some of the energy commodities and some of these ETFs… The entire retail community is playing into a listed ETF that all it does is buy the next front month futures and buy treasury bills that are at zero, and there is this huge contango market, and what they’re going to have to do is keep rolling it over and paying higher and higher and higher prices for oil…”

“I think this is a temporary supply shock that is stressing out system… I think as we start to roll and open our economy going forward, I think it makes sense that the big balance sheet, most well-heeled oil companies, they’re not just going to be the survivors, they’ll be the winners over time. The highly levered smaller companies that weren’t hedged will go away. This is a natural process where you go from boom to a bust and I think we are going to have a bust. But I think it is important to note that the companies that have irreplaceable assets, the best production, and the best fields, they’re going to be survivors and winners.”

There is more to the interview, so enjoy it above.

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