May 1 – Last week we saw U.S. crude futures for May delivery plunge below zero for the first time ever, June futures dove 43% to close below $12 a barrel in New York trading session. Underpinned by a massive supply glut brought on by a deadly combination of the Covid-19 pandemic and a worldwide shortage of storage space kicked off what is an unyielding rout that has shifted the entire forward curve for oil.
This contagion spreading across global oil markets has seen significant job losses (well into thousands), a significant cutback in capital spending giving a significant deflationary effect that threatens to cripple the world economy. Countries are already grappling with coronavirus-fuelled lockdowns, Storage tanks, pipelines and tankers have become overwhelmed by a vast oversupply brought on by an unprecedented plunge in global fuel demand.
Oil tankers are also running at maximum capacity. Many oil-producing companies keep oil at sea in tankers before its transported to it final destination. This is leading to a rise in oil transportation and tanker companies share prices.
There is no quick fix for this problem and the only relief will come when demand once again increases, and that all depends on how quickly Coronavirus passes. However, with hundreds of thousands of Americans ignoring social distancing rules the US could well be the epicentre for the health crisis for longer than many think.
In all this a unique trifactor effect comes to play;
- Coronavirus outbreak – drop in global oil demand
- How long can oversupply in the oil Market last?
- A US election – Which presents a significant opportunity for the Trump Administration to talk about low gasoline prices as an economic stimulus.
This, as with everything, has casualties; the biggest of whom being the US Shale oil producers in the short term. Most Shale producers break-even production cost is around the $40 a barrel mark. The significant drop in the price per barrel has meant that most Shale oil producers have had to halt production and proceed into ‘maintenance’ mode as it will not make financial sense to produce oil at these price levels.
Where does Russia fall in all of this? It is expected that Russia will be a casualty in this price war, however, it is worth noting that their $150Billion dollar Sovereign wealth fund could be used to cushion budget losses if oil prices fell to $10 a barrel and its possible that they could sustain this for the next 3 years if prices remain low. Russia needs Oil at close to $42 to have a balanced budget.
What does this mean?
From a local perspective, if these low-price levels are sustained, we could see our oil import bill save around $2Billion which would be a significant stimulus for the country. We do expect Pump prices for the May round to come off at least another 15% which will present a significant shot in the arm for the government as it looks to put in place an economic recovery package
From an investor perspective, this would be an interesting commodity class to add to your portfolio as oil has fallen close to 50% in 2020.
[Kevin Ng’ang’a – Scope Markets Kenya CEO]