Energy: Crude Oil and Natural Gas

Energy derivatives come up when a purchasing manager who buys crude oil, or a sales manager at a company that produces and sells crude oil and natural gas, uses futures to fix a future purchase cost or selling price in advance.

Crude oil benchmarks

Crude oil prices are set with reference to the price of a benchmark crude. The three main benchmarks in the world crude oil market are WTI crude oil, Brent crude oil, and Dubai crude oil (averaged with Oman crude). Each benchmark differs in where it is produced and in which regions' crude oil is priced against it¹.

Widely used benchmark crudes share some common qualities: stable and ample production, a transparent and free-flowing market, adequate storage, and delivery points that make it easy to trade with other market hubs¹.

Almost all of the crude oil Japan imports comes from the Middle East, and crude oil produced in the Middle East and exported to Asia is priced against the Dubai benchmark¹. Japan imports crude oil mainly from Middle Eastern countries such as Saudi Arabia, the United Arab Emirates, Kuwait, and Qatar, and in fiscal year 2023 the Middle East accounted for 94.7% of its crude oil imports (its dependence on the Middle East)².

Settlement of crude oil futures differs by benchmark

This page looks at one futures contract for each of the three benchmarks: WTI crude oil futures on the New York Mercantile Exchange (NYMEX), Brent crude oil futures on ICE Futures Europe, and Dubai crude oil futures on Tokyo Commodity Exchange. The way a position held to expiry is settled differs by benchmark.

If you hold WTI crude oil futures to the end of trading, you deliver or take delivery of crude oil at Cushing unless you have made other arrangements in advance. Most participants avoid delivery, though, by closing out their futures with an offsetting trade before expiry. Only about 1% of the futures traded go to delivery³.

Brent crude oil futures trade in units of 1,000 barrels, with prices quoted in dollars per barrel. The ICE Brent Index price used for cash settlement is published by the exchange on the trading day after the last trading day⁴.

Platts Dubai Crude Oil Futures on Tokyo Commodity Exchange are futures on Middle Eastern crude oil priced against the Dubai crude oil benchmark. The trading unit is 50 kiloliters (one contract), and prices are quoted in yen per kiloliter. Positions held to expiry are settled by paying or receiving only the difference, using a final settlement price equal to the average Dubai crude oil price in the contract month converted into yen⁵.

Example: fixing a crude oil cost

Platts Dubai Crude Oil Futures are cash-settled against the average Dubai crude oil price in the contract month. This lets you fix in advance the cost of crude oil whose purchase price is set by the average price for the same month. A buyer of crude oil can buy futures to lock in a future purchase price today, and a producer can sell futures to lock in a future sale price. This use is called hedging. Crude oil futures are also traded by participants who neither produce nor consume crude oil and seek to profit from price moves, which is called speculation⁶.

Consider a hypothetical example in which Company E, which buys crude oil, plans to buy 50 kiloliters of Middle Eastern crude oil in January 2027, under a contract that sets the purchase price at the average Dubai crude oil price for January (converted into yen). To guard against a price rise, Company E buys one January 2027 Platts Dubai Crude Oil Futures contract at 70,000 yen per kiloliter.

If the January average price rises to 80,000 yen, Company E pays 80,000 yen × 50 kiloliters, or 4 million yen, for the crude oil. The futures, on the other hand, make a profit of (80,000 yen − 70,000 yen) × 50 kiloliters, or 500,000 yen, so the combined cost is 3.5 million yen. If the average price falls to 60,000 yen, the purchase cost drops to 3 million yen, but the futures lose 500,000 yen, so the combined cost is again 3.5 million yen⁷.

Figure description

This shows the profit or loss for someone who buys Platts Dubai Crude Oil Futures at 70,000 yen per kiloliter and holds them to expiry. The horizontal axis is the final settlement price, and the vertical axis is the profit or loss per kiloliter; the profit or loss for one contract (50 kiloliters) is 50 times this value. The profit or loss is a straight line that rises one for one with the final settlement price. It is zero at 70,000 yen, a profit above that, and a loss below it. At a final settlement price of 90,000 yen the profit is 20,000 yen per kiloliter, and at 50,000 yen the loss is 20,000 yen per kiloliter. For Company E, this profit or loss offsets the rise or fall in its crude oil purchase cost.

The cost stays the same in this example because the purchase price and the futures' final settlement price are both set by the average of the same benchmark for the same month, and because the purchase and the futures cover the same 50 kiloliters. If the purchase price is set by a different benchmark or by the average over a different period, the futures profit or loss and the change in the purchase cost will not match, and the cost will not stay fixed.

Natural gas and LNG prices

The benchmark for natural gas prices in the United States is the price at Henry Hub in Erath, Louisiana. Henry Hub is the delivery point when NYMEX natural gas futures are delivery-settled, and much of the natural gas traded at US trading hubs is priced against the Henry Hub price⁸. Natural gas futures began trading on NYMEX in 1990. Like crude oil futures, they are used by producers and consumers to hedge. Less than 2% of NYMEX natural gas futures go to delivery⁹.

Natural gas is moved either as a gas through pipelines or by tanker as liquefied natural gas (LNG), which is natural gas cooled to −162°C to make it liquid. In fiscal year 2023, Japan imported 97.9% of its natural gas, all of it as LNG¹⁰. Japan's LNG import prices are generally linked to crude oil prices. This is because Japan buys most of its LNG under long-term contracts, and the prices in many of those contracts are linked to the average import price of crude oil into Japan¹⁰. By contrast, much of the LNG from the United States is linked to the Henry Hub price, and LNG bought on the spot market is priced through bilateral negotiation¹⁰.

Tokyo Commodity Exchange lists LNG (Platts JKM) Futures. The underlying is LNG traded on the spot market for delivery to Japan and South Korea. The trading unit is 1,000 mmBtu (one contract), and prices are quoted in yen per mmBtu. Positions held to expiry are cash-settled at a final settlement price equal to the average price from the 16th of the second month before the contract month to the 15th of the month before it, converted into yen¹¹.

Crack spreads

The difference between the wholesale price of oil products and the price of crude oil is called the crack spread. Because it compares the cost of crude oil with the selling price of the products made from it, it is used as a rough measure of refining margins¹². The crack spread is only a simple measure, though: it leaves out refining costs other than crude oil and is calculated from only some products, such as gasoline and diesel¹².

A commonly used version is the 3:2:1 crack spread, calculated by subtracting the price of 3 barrels of crude oil from the combined price of 2 barrels of gasoline and 1 barrel of distillate (such as diesel and heating oil). The ratio reflects the fact that US refining produces roughly 2 barrels of gasoline for every barrel of distillate¹². Consider a hypothetical example in which crude oil is USD 70 a barrel, gasoline is USD 85, and distillate is USD 100. The spread is 85 × 2 + 100 − 70 × 3 = USD 60, or USD 20 per barrel of crude oil. If crude oil stays the same and gasoline falls to USD 70, the spread becomes 70 × 2 + 100 − 70 × 3 = USD 30, narrowing to USD 10 per barrel.

There are also futures on oil products. In the United States, gasoline and distillate futures let you buy or sell products for future delivery or hedge against price changes¹³. Buying crude oil futures and selling product futures together fixes today the gap between crude oil and product prices, that is, the crack spread. Crack spreads tend to move with the seasons depending on the product: in the United States, the gasoline spread tends to be high from spring through summer, and the distillate spread from October through February¹³.

Negative WTI crude oil futures prices

On April 20, 2020, the front-month (nearest-expiry) NYMEX WTI crude oil futures contract traded at a negative price for the first time since trading began in 1983. It fell as low as −USD 40.32 a barrel at around 2:30 p.m. US Eastern Time, and it was also below zero for part of the next trading day³. At a negative price, the seller pays money and the buyer receives it¹⁴.

Behind this were delivery settlement and a shortage of room to store crude oil. As COVID-19 spread, consumption of crude oil and oil products dropped sharply, and surplus crude oil was going into storage. As of April 17, crude oil inventories at Cushing were 60 million barrels. About 2 million barrels of that was in transit, for example in pipelines, and the 58 million barrels in tanks equaled 76% of the 76 million barrels of working storage capacity³. Some of the unused storage was likely already under contract, so buyers of futures without prior arrangements would likely have faced high costs to rent storage. As a result, some buyers who wanted to avoid delivery sold their futures, even paying the other side to take them³.

The negative prices occurred in the futures for May 2020 delivery, whose last trading day was approaching. Brent crude oil futures for June 2020 delivery closed at USD 19.33 a barrel on April 21, and WTI crude oil futures for later contract months also had positive prices³.

Risks: price changes and delivery constraints

A futures buyer loses money when the price falls, and a seller loses money when it rises. The mark-to-market and margin system that settles gains and losses daily is covered in Futures Margin and Daily Settlement. As with WTI crude oil futures in April 2020, prices can fall below zero, and the buyer's loss is then larger than the full price paid³.

With delivery-settled futures, if you hold them to expiry you must actually take or make delivery of the crude oil. Participants without a place to receive it or storage arranged must close out with an offsetting trade before the last trading day, and in April 2020 this pushed prices down³.

In a hedge, if the price you are hedging and the futures benchmark differ, part of the profit or loss will not offset.

The price pattern across contract months, such as contango and backwardation, and how commodity derivatives work overall are covered in Overview of Commodity Derivatives.

Notes

1. U.S. Energy Information Administration, "Benchmarks play an important role in pricing crude oil" (Today in Energy, October 28, 2014), the paragraph on the "four common qualities" shared by benchmarks, the paragraphs on Brent, WTI, and Dubai/Oman, and the chart note. ↩ ↩² ↩³

2. Agency for Natural Resources and Energy, "エネルギー動向（2025年版）" (Energy trends, 2025 edition, in Japanese), Chapter 1, Section 3, "1．化石エネルギーの動向" (1. Trends in fossil energy), "（1）石油" (1. Oil) (the paragraph on crude oil import sources and dependence on the Middle East). ↩

3. U.S. Energy Information Administration, "Low liquidity and limited available storage pushed WTI crude oil futures prices below zero" (Today in Energy, April 27, 2020), paragraphs 1 to 7. ↩ ↩² ↩³ ↩⁴ ↩⁵ ↩⁶ ↩⁷

4. ICE Futures Europe, "Brent Crude Futures" (product page), "Contract Size," "Currency," "Trading Price," and "Delivery/Settlement Terms." ↩

5. Tokyo Commodity Exchange, "制度概要（プラッツドバイ原油先物）" (Contract specifications: Platts Dubai Crude Oil Futures, in Japanese; updated November 4, 2024; English version: "Contract Specifications", https://www.jpx.co.jp/english/derivatives/products/energy/platts-dubai-futures/01.html), the items on type of trade, subject of cash-settled futures, last trading day, final settlement day, contract unit, price increment, and final settlement price. ↩ ↩²

6. U.S. Energy Information Administration, "Oil prices and outlook" (updated August 16, 2023), the paragraph "Different types of oil market transactions are available." ↩

7. The profit and loss figures exclude fees and differences in exchange rates used for conversion. ↩

8. U.S. Energy Information Administration, "Market dynamics vary at key natural gas pricing hubs" (Today in Energy, October 23, 2024), the paragraph on Henry Hub. ↩

9. U.S. Energy Information Administration, "What is the natural gas futures market?" (Today in Energy, July 29, 2024), the paragraph on how futures settle ("settle both physically and financially") and the paragraph on the start of trading in 1990. ↩

10. Agency for Natural Resources and Energy, "エネルギー動向（2025年版）" (Energy trends, 2025 edition, in Japanese), Chapter 1, Section 3, the opening paragraph of "（2）ガス体エネルギー" (2. Gaseous energy), and "（ア）供給の動向" (a. Supply trends) and "（ウ）価格の動向" (c. Price trends) under "①天然ガス" (1. Natural gas). ↩ ↩² ↩³

11. Tokyo Commodity Exchange, "制度概要（LNG（プラッツJKM）先物）" (Contract specifications: LNG (Platts JKM) Futures, in Japanese; updated November 4, 2024; English version: "Contract Specifications", https://www.jpx.co.jp/english/derivatives/products/energy/lng-futures/01.html), the items on type of trade, subject of cash-settled futures, contract unit, price increment, and final settlement price. ↩

12. U.S. Energy Information Administration, "An introduction to crack spreads" (Today in Energy, June 2, 2011). The definition and its use as a measure of refining margins are in the first paragraph, and the 3:2:1 crack spread is in the "Multiple-product crack spreads" paragraph. ↩ ↩² ↩³

13. U.S. Energy Information Administration, "What drives petroleum product prices: Prices and crack spreads," two paragraphs each on the products underlying futures and on seasonal patterns. ↩ ↩²

14. Agency for Natural Resources and Energy, "エネルギー動向（2025年版）" (Energy trends, 2025 edition, in Japanese), Chapter 1, Section 3, note 13 (the meaning of "マイナス価格," negative price). ↩