Who creates oil futures?

Question

Who creates futures such as CL.AUG20 (August WTI Crude Oil contract) sold on NYMEX which can be bought via eToro?

I understand that when a company wants to go public, they sell these stocks on an exchange such as NYMEX or other to which brokers connect to and people like me buy those stocks via the broker. The company wants to go public so they 'create' the shares and give them to the exchange who in turn sells to brokers.

But who creates oil futures such as the one I mentioned above? I understand they are backed by oil and that their price comes from a formula which takes into account the spot price of oil, carry and storage costs, and other stuff such as dividends that you would get if you owned say an oil index fund instead (I believe this is called fair value). Is this correct?

I understand how a company that needs oil would enter into a future contract with a company that sells oil to secure its right to buy at a specific date and price. I assume that when companies do this that they are doing it by meeting and signing some form of real paper contract rather than doing it on an exchange. If that is the case then does that means that such actions taken by companies don't have any effect on the oil futures we see on an exchange?

But who creates these oil futures that everyone with a broker account can buy? Do oil companies create those futures and sell them in a similar way a company would sell its stock? Or are they some kind of instrument created by exchanges and not by companies? How does it work?

Answer 1

The exchange "creates" the futures contracts. I use quotes because unlike stock in a company, you aren't really "buying" anything - you're entering into a contract with a counterparty (also arranged by the exchange). The exchange sets up the contracts and the platform to facilitate the legal documents (and settlement, margin, etc.) between the counterparties. They aren't created by oil companies - oil companies are just counterparties like anyone else.

Also, counterparties can trade similar contracts over-the-counter (they're then called "forwards" instead of "futures") that have no direct price on the futures, but it could create an arbitrage opportunity that should keep the prices roughly in line. Also, you then bring counterparty credit risk and liquidity risk into play.

Answer 2

Everytime you 'buy' a futures contract, somewhere someone else is 'selling' it, to you, at the agreed price. The exchange just facilitates this. When you 'sell' the contract, you sell it to someone who 'buys' it, and the amount of contracts in existence goes down.

(In reality the exchange inserts itself as the counterparty for all trades, and you only have a contract with the exchange)

Therefore the total number of open 'buys' always equals the total number of open 'sells'. This value is called the 'open interest' and gives a measure of how much people care about the price.

Theorectically the 'open interest' can be a number from zero to infinity. If the value is large, and the futures contract is physically settled, then problems can and do occur at final settlement. This happened this year with oil, and in the 00's a few times with german government bond futures.