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How Can Something Cost Less Than $0? Your Oil Questions, Answered.

A lonely pumpjack in Lubbock.
A lonely pumpjack in Lubbock.
Flcelloguy / Wikimedia Commons

The oil industry moved into truly uncharted territory Monday afternoon. U.S. crude oil prices, for the first time in history, dropped below $0 per barrel. A person could, if he or she had the means to do so, have made more than $35 for each barrel of oil he or she was willing to take off refiners' hands.

Decades ago, in the pre-OPEC days, oil sometimes traded in the single digits, but it's never flopped like this, according to Bill Gilmer, the director of the Institute for Regional Forecasting at the University of Houston's Bauer College of Business.

The novel coronavirus pandemic and a price war between Saudi Arabia and Russia were the perfect storm to take out the oil market. Just because the market took a huge dive, however, doesn't mean it's going to open in negative territory Tuesday.

"This was an expiring contract. That same price is going to be $21 when everything opens up again tomorrow," Gilmer said Monday afternoon. "We'll be right back where we started. It was an expiring futures contract with all kinds of legal commitments that surround it to take delivery and return that tank car. If you don't have somewhere to store it, you're in big trouble."

When oil demand outstrips production, oil producers draw from their reserves to meet demand. When production exceeds demand, they put the oil in storage. Coronavirus and its fallout have led to excessively low demand, so the oil company's reserves are full. That's why they had to pay to get rid of their oil as their May contracts expired.

"Nothing fundamentally changed here. Frankly, it's just one more sign of the apocalypse," Gilmer says. "I think the industry as a whole had anticipated the possibility of single-digit prices for sure, that it could fall to $1 or $2, but I don't think anybody anticipated that we were going to see (negative prices), that you would literally have to find somebody and pay them to take it off your hands."

Texas' budget, which relies heavily on sales-tax revenue from restaurants, bars and entertainment — all industries hard hit by COVID-19-related shutdowns — as well as taxes on oil exported from the state, is in for a crunch, according to Gilmer.

"We're in for some real pain," Gilmer says. "We're going to open things up, but these stay-home orders are likely to come and go all year, based on our ability to ration the state's hospital capacity. ... You've got severance taxes and the oil taxes that are not going to be at probably a projected $50-$55 for this year for budgeting purposes. If we're lucky they'll average $30 or $35 for the year. The budget's completely out of whack."

Even if a miracle vaccine or cure for COVID-19 were discovered this week, Gilmer says, Texas economy would still be in bad shape.

"The oil glut's still there tomorrow," he says. "We're trying to get back to the fundamentals. There are two phases to think about with this. First, we've got to get this glut out of the way, and OPEC, the Saudis, the Russians and the U.S. have all made contributions to doing that, it's just going to take awhile."

The next phase, in which demand for oil increases and prices go back up, requires a healthier economy.

"We'll be lucky to clear the glut this year," Gilmer says. "We'll be lucky to see $50 oil clear into the year after that."

U.S. oil futures closed at an average of more than $57 in 2019, about $8 less than the average closing price in 2018. Dramatically lower prices will be especially hard on Texas' cities that are dependent on oil, Gilmer says.

"If you live in Austin (the economy) is not that closely tied to oil — except for that (Capitol) dome over there where they collect the severance taxes — but for the rest of Austin, or for San Antonio, they're not big oil centers," Gilmer says. "For Houston, for Midland, for any of the producing areas, or course, they get hit pretty hard when the price of oil falls, but there are places in Texas where it's a plus when prices fall."

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