Crude Oil Futures Explained

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Contributor, Benzinga
Updated: July 27, 2021

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Crude oil futures reached an all-time low during COVID-19, moving into negative territory for the first time in history. Not only was this psychologically jarring to investors, it signaled a new era for the entire industry. Whiting Petroleum and Chesapeake Energy, companies once thought untouchable, filed for bankruptcy protection. The World Economic Forum, the International Monetary Fund and other global agencies are openly questioning oil’s place in their ideal future of sustainable energy and greener climates.

If you have an interest in profitably navigating these unique times, you should understand crude oil futures. Used properly, futures can provide leveraged trading opportunities and protection for your overall portfolio.

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What Are Crude Oil Futures?

Futures in general are contracts to trade a commodity or another underlying asset. Crude oil futures are contracts between buyers and sellers to deliver a certain amount of crude oil on a given date in the future. The price of that oil is contracted largely according to current spot pricing while also taking into account costs of storage and future expectations. 

The primary function of these contracts is to provide a hedging facility for commercial buyers and sellers of oil, although they also provide a trading vehicle for speculators to use. Producers can presell based on their expected production, and buyers can lock in a price today that protects them from possibly paying more in the future, while speculators can take advantage of contract volatility and use futures to bet on their market view for the oil price.

Despite crude oil’s volatility (or perhaps because of it), crude oil futures are among the most liquid types of futures on the market. Alternative energy gets a lot of media attention, but petroleum still accounts for over 36% of energy consumption in the U.S., outpacing solar and wind energy production by a factor of about 10 to 15 times.

The most efficient and liquid way to trade crude oil is through the NYMEX WTI Light Sweet Crude Oil Futures. NYMEX stands for New York Mercantile Exchange and WTI is an acronym for West Texas Intermediate. The NYMEX light sweet crude oil market trades more than 1 million futures contracts on a daily basis.

Traders and hedgers use futures contracts, albeit for different reasons. The market is active and well known, with industry-related news quickly factoring into pricing across the world. The volatility of the market makes it attractive for day traders, while the permanence of oil on the world stage provides a predictable range for long-term oil strategists. 

The majority of traders in the crude oil futures market never actually plan to take possession of the physical barrels of oil, however, and most brokers will not even allow it. The vast majority of open futures contracts are offset before the expiration date, when they must be settled either through delivery or in cash.

Best Brokers for Futures

As long as you are not trying to actually take possession of crude oil, you should have no trouble finding a futures broker that will accommodate your trading. You may want to compare the feature sets of different brokers and pick the broker that matches your trading style most closely. Many brokers offer their own proprietary trading software, otherwise, you can match your broker to your trading software to ensure you can use the platform you prefer.

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How Much is a Crude Oil Futures Contract?

Each crude oil futures contract controls 1,000 barrels of oil. The total amount of money you spend is based on the current price of oil. For instance, if the current price of oil is $43, then 1 futures contract is worth $43,000.

In most cases, you will not have to pay $43,000 in cash to purchase a futures contract. Most brokers will allow you to trade on margin, meaning that you only put up a fraction of the notional value of the contract. You will need a certain amount upfront, known as the initial margin. In addition, you will be required to keep a certain minimum amount of money in your account, known as the maintenance margin, as the value of the position shifts over time. 

Maintenance margin amounts can change. If a contract falls in value while you are holding it, your broker may initiate a margin call. This call requires you to put more money into your account to continue holding the position. If you do not deposit more money or reduce the size of your position to one that can be maintained given the funds in your account, the broker will probably close out your position automatically. Consult your broker’s terms of service to determine the exact margin amounts and when a margin call may occur.

Outlook on Crude Oil Futures

As demand decreases or is expected to decrease, the price of crude oil futures goes down.

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Forecasts from the U.S. Energy Information Administration (EIA) predict that supply corrections from producers and rising demand from April lows will help to increase the prices of crude oil in Q3 and Q4 2020. That price movement will be limited by existing inventory and “uncertainty about the trajectory of oil demand.”

The EIA predicts that Brent crude oil prices will average $41 per barrel for the rest of 2020. They expect prices to rise to $53 per barrel at the start of 2022. They base these predictions on the sustainability of current oil consumption and the announcement of production cuts by the Organization of the Petroleum Exporting Countries (OPEC).

What Time do Crude Oil Futures Open?

Around 70% of globally-traded crude oil is priced relative to Brent crude oil, which originates in the North Sea. It trades on the Intercontinental Exchange (ICE) from Sunday to Friday, 6 p.m. to 5 p.m. EST with a 1-hour break between each session beginning at 5 p.m. each business day.

WTI is the standard crude oil produced in the U.S. It trades on the CME Globex from Sunday to Friday, 6 p.m. to 5 p.m., also with a daily 1-hour break at 5 p.m.

Strategies for Crude Oil Futures

Crude oil trades as a very efficient market. News moves prices almost instantly and the market usually responds to logical fundamental and technical analysis. If you understand what affects the price, you can create a strategy that should give you a better chance of success when trading.

  • Supply: If there is an outage in any major refinery around the world, it can have an effect on the world’s oil supply. Assuming average demand, a drop in supply increases the price of crude oil futures. OPEC production affects futures the most, as it controls 79.4% of the world’s known crude oil reserve supply.
  • Seasonality: Changes in weather conditions can affect the market for crude oil. A sophisticated oil futures trader monitors temperatures of summers and winters around the world, as well as any severe weather conditions that could impact production, available storage and/or demand. 
  • New markets: Economic development generally leads to a rising demand for crude oil. Emerging markets in southeast Asia and South America are adding to the need for crude, putting upward pressure on the price of futures.

Recent Posts on Crude Oil

Crude oil is at the center of many global discussions from climate change to poverty. Here are some of the most recent posts on this always dynamic subject matter.

Do You Have a Future in the Oil Industry?

The crude oil industry recovered as a whole after its March and April 2020 lows. COVID-19 may put a damper on current demand, but government agencies expect the oil market to largely recover. Depending on your trading style, you can take advantage of the volatility during the recovery or wait until calmer waters bring market conditions that you can more safely speculate in. 

Regardless, learn the fundamentals of how and why oil moves around the world before moving your money in the market. Futures are highly leveraged financial instruments that are generally more suitable for traders than investors unless you happen to have a commercial interest you wish to hedge.