Crude oil has been in backwardation (where short-term futures are priced higher than long-term futures) for years, even during price declines. Here are some reasons why this happens:
- High Spot Market Demand:
- Backwardation suggests strong immediate demand for physical oil. Consumers and refineries may need oil quickly, which drives up short-term prices, even if long-term prices are lower due to expectations of stable supply.
- Storage Costs and Deterioration:
- Storing crude oil is expensive due to the need for safe and secure facilities. In a backwardation market, it’s less profitable to store oil because future prices are lower than current ones. This incentivizes companies to sell or use oil immediately rather than keeping it in storage.
- Geopolitical and Supply Risks:
- Geopolitical tensions, especially in key oil-producing regions like the Middle East, can cause short-term price spikes. These uncertainties elevate the current demand for oil, while future prices may remain lower due to expectations that the situation will eventually stabilize.
- OPEC Supply Management:
- The OPEC group often manages oil supply by cutting production to support prices. By limiting output, they can create temporary supply shortages, which keep short-term prices high, even in a declining market.
- Refinery Operations and Seasonal Demand:
- Refineries may adjust their operations seasonally, increasing demand for crude oil during specific periods (e.g., for winter heating oil). These fluctuations can drive up near-term prices, leading to backwardation, even when the overall market is declining.
In summary, backwardation persists in the crude oil market due to immediate demand, high storage costs, supply management by OPEC, and geopolitical factors, making short-term prices higher than long-term prices even during periods of falling prices.