The economic impact of the coronavirus has torn the oil industry apart in dramatic phases. First, it destroyed demand because the closures closed factories and kept drivers at home. Storage then began to fill and traders used ocean tankers to store the crude in the hope of better prices in the future.
Now shipping prices are reaching stratospheric levels as the industry lacks tankers – a sign of market distortion.
The specter of production stoppages – and their impact on jobs, businesses, their banks and local economies – has been one of the reasons that have led world leaders to join forces to reduce production in an orderly fashion. But as the magnitude of the crisis overshadowed their efforts, failing to keep prices from falling below zero last week, the closings are now a reality. This is the worst case scenario for producers and refiners.
“We are entering the final stages,” said Torbjorn Tornqvist, chief of the commodity trading giant Gunvor Group Ltd., in an interview. “From early to mid-May could be the peak. We are weeks, not months. “
In theory, the first reductions in oil production should have come from the OPEC + alliance, which earlier this month agreed to cut production from May 1. However, after the catastrophic fall in prices on Monday, when West Texas Intermediate fell to -40 USD per barrel, the American shale patch led.
We are entering the end of the game
The best indicator of the reaction of American industry is the rapid decline in the number of oil rigs in operation, which last week fell to its lowest level in four years. Before the coronavirus crisis, oil companies operated about 650 platforms in the United States. As of Friday, more than 40% of them had stopped working, with only 378 remaining.
“On Monday, people really focused on the fact that production must slow down,” said Ben Luckock, co-manager of oil trading at the trader Trafigura Group. “This is the impression the market needed to realize that this is serious. “
Trafigura, one of the largest American crude oil exporters in the Gulf of Mexico, estimates that production in Texas, New Mexico, North Dakota and other states will now drop much faster than expected, as companies react to negative prices, which have persisted for several years. days last week in the physical market.
Until prices collapsed on Monday, the consensus was that production would drop by around 1.5 million barrels per day by December. Now, market observers note this loss at the end of June. “The severity of price pressure is likely to catalyze the immediate downturn in activity and closings,” said Roger Diwan, petroleum analyst with consultant IHS Markit Ltd.
The price shock was particularly intense in the physical market: crude oil producers such as South Texas Sour and Eastern Kansas Common had to pay more than US $ 50 per barrel to unload their production last week. ConocoPhillips and shale producer Continental Resources Inc. have all announced plans to close their production. Oklahoma regulators voted to allow the oil drillers to close the wells without losing their leases; New Mexico has made a similar decision.
North Dakota, which for years has been synonymous with the American shale revolution, is rapidly shrinking. Oil producers have already closed more than 6,000 wells, reducing production by about 405,000 barrels a day, or about 30% of the state’s total.
Production reductions will not be limited to the United States. From Chad, a poor, landlocked country in Africa, to Vietnam and Brazil, producers are now cutting back or planning to do so.
“I wouldn’t want to be sensational about it, but yes, there must clearly be a risk of closure,” said Mitch Flegg, head of the North Sea oil company Serica Energy, in an interview. “In some parts of the world, it is a real and present risk.”
At emergency board meetings last week, big and small oil companies discussed a prospect that is the darkest that any oil leader has ever known. For small businesses, the next few weeks will be spent staying afloat. But even for the bigger ones, like Exxon Mobil Corp. and BP Plc, it’s a challenge. Big Oil will offer a glimpse of the crisis when companies publish their profits this week.
Saudi Arabia, Russia and the rest of the OPEC + alliance will join the production cuts on Friday, cutting production by more than 20% to 9.7 million barrels a day. Saudi Aramco, the state-owned company, is already cutting to meet the target. And Russian oil companies have announced that exports of their Ural flagship crude will drop to a 10-year low in May.
However, this may not be enough. Each week, 50 million barrels of crude oil are stored, enough to fuel Germany, France, Italy, Spain and the United Kingdom combined. At this rate, the world will run out of storage by June. What is not stored ashore is stored in tankers. The US Coast Guard said on Friday that there were so many tankers at anchor off California that it was monitoring the situation.
Before the crisis, the world consumed around 100 million barrels a day. However, demand is currently between 65 and 70 million barrels. Thus, in the worst case, around a third of world production has to be closed.
The reality is likely to be less serious as storage will continue to bridge the gap between supply and demand. In addition, oil traders say consumption has likely bottomed out and will begin a very soft recovery.
But before it takes hold, the big shutdown will also spread through petroleum refining.
One of America’s largest refiners, Marathon Petroleum Corp., announced last week that it would halt production at a plant near San Francisco. Royal Dutch Shell Plc has idled several units at three US refineries in Alabama and Louisiana. And in Europe and Asia, many refineries are half-functioning. US oil refiners only processed 12.45 million barrels per day in the week before April 17, the lowest amount in at least 30 years, except for the hurricane closures.
More and more refinery closings are approaching, oil traders and consultants have said, particularly in the United States, where the closings started later than in Europe and demand continues to contract. Steve Sawyer, director of refining at Facts Global Energy, said global refineries could shutdown up to 25% of total capacity in May.
“No one can dodge this bullet. “