barrel. A more common level of contango would be in the range of $2 or $4 a barrel. And the gap wasn’t just wide, it was long-lasting. The markets remained in contango for several months.
Koch Industries, and a handful of other giant oil producers, were able to exploit this gap in a special way. Because Koch Industries traded in both the futures markets and the physical markets, it could execute something called the “contango storage play.” One former senior trader within Koch Supply & Trading called the contango storage play a “bread-and-butter” strategy for Koch’s crude oil department.
The mechanics of the contango storage play seem deceptively simple. A trader at Koch Industries buys oil in the spot markets, where it is cheap. Then, the trader sells oil for delivery in the futures markets, where oil is more expensive. When the contango gap is $8, it is easy to picture how quickly the profits pile up. The trader can buy oil for $35 and sell it for $43, almost instantly.
There is a catch, however. To execute the contango storage play, the trader must be able to do something that most traders can’t do—they must be able to deliver the actual, physical oil in that future month. If a typical oil speculator—who did not own an oil refinery, storage tanks, or an oil tanker ship—tried to execute the contango storage trade, they could find themselves shut out. Executing the contango storage trade didn’t just require deep knowledge of arcane shipping markets and transportation law; it also required deep relationships in the private world of oil production. “You have to have a lot of support systems to take advantage of it,” Beckett said. Koch had that support system. Koch could deliver the oil.
Outsiders who tried to get in on the trade during 2009 were denied. A commodities trader in St. Louis, named S. A. Johnson, complained to the Kansas City Star that he couldn’t execute a contango storage play. Johnson said the math behind the trade was blindingly obvious. But making the trade required signing deals with supertanker companies, large oil producers, and even pipeline owners. Johnson could not get these parties to return his calls. “They don’t want me to play,” he said.
During the early months of 2009, Koch’s traders piled into the contango storage play. Koch bought the cheap oil and sold the more expensive futures. It stored the oil for future delivery in tanks that Koch already leased. The trade was so profitable that Koch began to lease supertankers filled with oil, using them as temporary, floating storage units. The tankers floated in the Gulf of Mexico, waiting for their moment to deliver, allowing Koch to increase its trade without fear of a squeeze. The handful of other companies that could execute this trade, such as BP and ConocoPhillips, also leased supertankers and kept them floating on the sea, waiting to deliver their cargo. BP told its investors that the contango storage play earned the company roughly $500 million in the first quarter of 2009 alone.
As news of this trading tactic became public in mid-2009, it prompted allegations that Koch and other traders were manipulating oil markets by keeping supplies off the market and raising prices at the pump. This was true, but only to an extent. It was the global recession that caused demand to disappear, which in turn caused near-term oil prices to collapse. Without that oil glut, the contango storage trade would have been impossible. Traders in Koch’s oil department saw themselves as reacting to market conditions, not manipulating them. By holding oil for later delivery, Koch Industries was helping correct a gap in the market, even if it was profiting by doing so.
“The market’s really wanting you to do it,” Beckett said. “The market is oversupplied in the front, today, which is why the price is low. So, they’re wanting some supply to disappear. The market is communicating there is too much of something.” Koch was listening to the market, buying up oil today and holding off delivery of oil until tomorrow when demand was higher.
The contango storage trade helped Koch cover its losses through the darkest period of 2009, as the firm cut jobs and idled its factories.
* * *
During the winter of 2008, even David Koch was forced to adjust his behavior and his outlook. He was getting more requests for big donations after his previous gifts had been publicized. But David Koch didn’t think this was the time to make new donations. There