Inside the split between oil on paper and oil in hand

The regional war exposed how two closely linked oil markets can tell very different stories: the one everyone watched, with front-month Brent futures flashing across trading screens, and the one that actually determined whether refiners could secure fuel — where buyers competed for physical cargoes at steep premiums over benchmark prices. That distinction is one of the commodity markets’ most misunderstood features: paper barrels and physical barrels may be closely linked, but they don't always carry the same value, the Financial Times reports.

The distinction between paper and physical commodities has tripped up even the world’s most famous economists. In 1936, John Maynard Keynes nearly found himself taking delivery of thousands of tonnes of Argentine wheat after a speculative trade went south — with nowhere to store it, according to a Cambridge study. He escaped only by delaying delivery long enough to sell the contracts before the grain ever arrived. His close call is still relevant today — buying a futures contract is one thing while owning the physical commodity is something else.

Here’s the trick: A futures contract is simply an agreement to buy or sell oil at a future date. That timing matters, as a futures contract and a prompt physical cargo don’t represent delivery at the same point in time. Most investors never intend to receive the oil itself — they buy and sell contracts to gain from price movements, then close their positions before delivery.

For some buyers though, delivery isn't optional: Refiners, airlines, shipping companies, and manufacturers need the actual barrels delivered to a specific port, at a specific time, and in the right quality. If those barrels become scarce because of war, sanctions, or shipping disruptions, buyers pay whatever premium is necessary to secure them.

“During the conflict, the market was pricing two different realities,” Senior Advisor at Blue Water Strategy Cyril Widdershoven tells EnterpriseAM. “Brent futures reflected expectations and financial sentiment, while the physical market was pricing immediate availability,” he adds. In other words, futures were pricing where supply and demand were headed, while physical markets were pricing how hard it had become to actually get hold of a barrel.

Normally, the two prices don't wander far apart. Traders usually exploit price differences by buying in cheaper markets and selling in the more expensive ones, which pulls prices back together. But oil rarely behaves this neatly — barrels are costly to move, store, and insure. Storage capacity is limited, shipping routes can be disrupted, and unlike financial assets, physical oil is difficult to borrow and sell short, meaning market participants can’t always exploit price differences as easily as theory suggests.

The players are different too: Physical markets are dominated by producers, refiners, and trading houses that actually need the commodity. Financial investors, meanwhile, mostly trade futures contracts without ever intending to take delivery. “Refiners cannot replace lost cargoes overnight, while futures can be traded within seconds,” Widdershoven notes.

That difference became obvious during the conflict. As concerns mounted over the strait, buyers weren’t simply paying for crude — they were paying for certainty. The premium reflected the value of securing cargoes that could actually arrive, rather than waiting for markets to settle. “Buyers competed for prompt cargoes from producers outside the immediate risk zone, while higher freight rates, war-risk ins., rerouting costs, and logistical uncertainty pushed delivered crude prices well above benchmark futures,” Widdershoven tells us.

Economists describe this through a concept known as the convenience yield — the extra value attached to physically owning a commodity when supplies are uncertain. Keynes argued that producers are often willing to sell future production at a lower cost because locking in prices reduces their financial risk, while buyers place additional value on holding physical inventory that can be used immediately. “In a crisis, availability commands a premium,” Widdershoven says.

Call it the umbrella-in-a-downpour trade: During the war, buyers valued oil they could get immediately much more than oil promised months later. The industry calls this backwardation — when near-term prices trade above future prices. Think of it like buying an umbrella in the middle of a rainy day, you’ll happily pay more today because having it now is worth more than the promise of getting it later. Oil works much the same way during disruptions and supply shocks.

The same physical tightness behind backwardation also filtered through to producer pricing. As refiners competed for prompt Middle Eastern barrels during the conflict, Saudi Aramco raised the premiums it charged Asian term customers — its largest market — through official selling prices (OSPs) for May, reflecting stronger demand for immediate physical crude at the peak of the conflict.

Rewind to 2020 for the mirror image: During the pandemic, there was too much oil and nowhere to store it. As storage tanks filled up, the price of West Texas Intermediate (WTI) briefly collapsed below zero because traders were effectively paying others to take unwanted oil off their hands rather than being forced to receive physical delivery themselves.

That’s contango’s moment to shine — where future prices trade above current prices because the market expects excess supply to ease over time. As the post-war market slipped into contango and physical tightness started to ease, Aramco responded by sharply cutting its OSPs for June, July, and August, reflecting weaker physical differentials and a less constrained physical market after the tensions eased.

History keeps siding with backwardation: A CME Group study found that since 1985, the WTI market has traded in backwardation around 58% of the time, compared with some 42% in contango.

The war showed why: Today’s oil market contains many ingredients that favor backwardation. Years of underinvestment have limited spare production capacity. US shale producers remain focused on shareholder returns rather than drilling. Opec producers have spare capacity, but much of it sits in a geopolitically volatile region.

Less oil, same headache: Even though the global economy used less oil per GDP than it did during the 1970s, the remaining demand is concentrated in certain sectors — such as aviation, shipping, and freight — where consumption cannot be easily reduced even when prices surge. That means availability has become increasingly valuable.

Our take: We’ve argued since the beginning of the war that energy security is increasingly becoming a logistics story rather than simply a production story — and the widening gap between futures and physical cargoes reinforces that view. Financial markets are excellent at pricing expectations, but they can’t solve shortages, reopen shipping lanes, or deliver crude to a refinery. That’s why, in a crisis, the price on a trading screen often matters less than knowing where the next cargo is coming from.