@jhm: interesting calculation with regard to oil price bottoming out and stabilizing due to arbitrage opportunities in storage. You laid out the case for the arbitrage using the example of "June 2018 future is at $43.70 and the March 2016 is at $31.87" and how you could quite easily make 20% ROE by financing storage. Doesn't this mean that the the market is pricing (time value) of the futures wrong (too high?). Or another way to see it is that the market is still pricing in an expected return to higher price/barrel as part of the time value?
It takes time and capital to add storage capacity. These arbitrage opportunities exist to motivate this infrastructural investment. So in short term trading these arbitrage opportunities will present themselves.
However, this structural change is taking place. OPEC is no longer willing or able to be the swing producer. To the need to balance out longterm supply and demand falls to the futures market and storage. As storage capacity is added globally, it will continue to be available almost permanently. With an abundance of storage capacity, it will add financial efficiency to the oil market. The peaks and valleys of the oil market will become more contained. Indeed storage capacity implies an arbitrage bound on peaks and valleys within a certain number of years.
Note also that the cost to bring on nonconventional oil starts at about $50. So long as the world demands more oil than can be supplied through existing wells and conventional reserves, the far end of the futures curve must exceed $50. If there is an abundance of unutilitzed storage capacity, then the spot price is bounded below by $50 (1+r)^10. For a discount of 7.2% per my example, this works out to $25. But if the future curve is steeper than only hitting $50 in 10 years, the lower bound on the spot price can be much higher. For example, if long-term demand is strong enough that nonconventional must be added with 5 years, then you get to a lower bound of $40. So the futures market will sort this out.
But I would also point out that this storage theory is all predicated on sustained long-term demand. I do believe that renewable energy is displacing demand for all fossil fuel. This offset was about 1.3MBoe/d last year, and may continue to scale at 30% per year for the next 15 or more years. So on time this disrupts the whole sustainable demand assumption for oil. This leads to a breach of the $50 future price for oil as the futres market figures out that there really is no long-term demand for nonconventional oil. So the long end of the futures curve well eventually fall below $50 down perhaps below even $20. At this point, you know that the end truly has come. My hunch is that this collapse of the futures curve happen between 2025 and 2035. Demand for all oil must peak first before the market writes off nonconventional oil. I also think EV production needs to scale up to about 25 million per year first. At that point it will be abundantly clear that EVs are the future and offset more than 1mb/d of demand for oil.
So even as the futures curve collapses, having ample storage will be very important to mitigating the damage of oil in decline. Indeed the futures curve will collapse because storage becomes concerned about failing longterm demand. So any hint of inversion and storage will flood the spot market. Storage will place a cap on spot prices. Any oil producer foolish enough to ignore a declining futures market will be crushed in very short order. So the price of oil will be dictated by the expected number EVS 10 years into the future. We are not there yet, but I think it will be pretty amazing to watch unfold.
