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US Oil Fund, popular ETF trading under ticker ‘USO,’ plunges 19% after brief halt

Oil pumping jacks, also known as “nodding donkeys”, operate in an oilfield near Almetyevsk, Tatarstan, Russia, on Wednesday, March 11, 2020.

Andrey Rudakov | Bloomberg | Getty Images

Trading in the United States Oil Fund, a popular exchange-traded security known for its ‘USO’ ticker which is supposed to track the price of oil and is popular with retail investors, was briefly halted Tuesday before the opening bell. It resumed trading and plunged 17%.

The halt came after USCF, the manager of the fund, said that it was temporarily suspending the issuance of so-called creation baskets.

Creation baskets are how an ETF creates new shares to meet demand. The baskets hold the underlying securities which in this case are plummeting oil futures. With the halting of these creation baskets, the ETF will essentially now trade with a fixed number of shares like a closed-end mutual fund.

On Friday, USCF changed the structure of the USO fund so that it can hold longer-dated contracts. Per a regulatory filing, around 80% of the fund will be in the front-month contract, with 20% in the second-month contract.

John Davi, founder and CIO of Astoria Portfolio Advisors, said the new structure was implemented as a way to try and protect investors from plunging crude prices. The coronavirus pandemic continues to sap worldwide demand for crude, which has sent prices to their lowest levels on record.

According to Davi, the USO is primarily owned by retail investors, which can be dangerous for those who believe they are betting on oil prices moving higher over time, without fully understanding the dynamics in the commodity market.

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“To buy USO you have to understand the oil futures market,” Davi told CNBC. “They [retail investors] just buy the ETF because they think the price of crude will go up, but they don’t understand the drivers, which are fairly complicated.”

USCF did not provide a comment.

On Monday, the May contract for oil fell to a negative price, an unprecedented event wreaking havoc on the oil markets. The contract expires today. USO likely had already sold that contract because it has stated in the past that it would invest in the next contract two weeks before expiration. So it owns futures for the June month and now likely the July month, given the revised structure.

June futures began cratering as well on Tuesday, pressuring the fund. June futures expiring in a month dropped 30% to under $15 on Tuesday. July contracts fell 13%.

USO could run into trouble if those contracts also fall to a negative value as they near expiration, mimicking the May contract’s plunge ahead of its expiration. 

Negative futures value is unprecedented and it is unclear how products like exchange-traded funds built for the retail investor to participate in the market will handle such events.

Hayman Capital Management CIO Kyle Bass has been warning investors about the danger of exchange traded funds that track oil prices.

“Retail has been plowing into these oil contracts thinking they’re buying spot crude oil when they’re buying the next front month. So they’re paying $22 a barrel when the spot market’s negative $38. Retail investors are going to get fleeced if they continue to fly into these oil ETFs,” he said Monday on CNBC’s “Closing Bell.”

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Following Monday’s price action, Bass, who said he holds short positions against some energy-focused ETFs, tweeted that he would demand 100% collateral.

Warren Pies, energy strategist at Ned Davis Research, sounded a similarly cautious tone.

“At best, they are expensive ways to gain programmatic futures exposure,” he said of commodity-based ETFs on Monday. “At worst, they are designed to implode. Still, money continues to flow into the USO ETF. As of last week, USO’s assets reached an all-time high of more than $5 billion. To reiterate: In this environment, USO is a train wreck. Stay away,” he said.

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