Demand recovery, storage facility ramp up key for sanity in crude oil price

Analysts remain cautious on the road ahead for the oil market given that most economies across the globe have come to a grinding halt post the spread of Covid-19 pandemic
A recovery and sustenance in demand, especially in the US and China, will be essential in restoring normalcy in the oil markets with prices of key variants – WTI and Brent – coming back to acceptable levels say analysts.

On Monday, the front-month US WTI benchmark crashed into negative territory for the first time ever in history, closing at a negative $37.63/barrel, signaling that production have exceeded the capacity to store the incremental volumes, in the short-term at least. Prices, however, recovered partially on Tuesday.

The negative close was only for the May contract, analysts said, which expires on April 21, while the June contract is still positive at around $20/barrel, signaling that this is a very short-term issue, for now.

“The June contract expires on May 19 and is a better representation of the true oil market. Hence, this will get corrected, but the falling crude oil price is symptomatic of a deep malaise that has been brought out by the IMF i.e. recession. With overall growth expected to be negative, demand for everything will be low if not drop which includes crude,” said Madan Sabnavis, chief economist at CARE Ratings.

On a slippery slope?

That said, analysts remain cautious on the road ahead for the oil market given that most economies across the globe have come to a grinding halt post the rampant spread of coronavirus (Covid-19) pandemic.

“It remains to be seen if the June contract will similarly fall into negative territory as it approaches expiry at the end of May. Thus far, the US government has made no indication that it will change from its policy of not imposing mandatory production cuts on its oil producers and continues to take the approach of allowing natural attrition to reduce supplies,” said Yaw Yan Chong, director for oil research & forecasts at Refinitiv.

Meanwhile, crude oil production, according to estimates, dipped by about 700,000 barrels per day (bpd) by April-mid and there are expectations of a further fall by around 1.7-2 million bpd by 2020-end.

“It remains to be seen if the pace of the production fall will enough to stem the collapse in price,” Chong adds.

Return to normalcy

Analysts at BofA Securities, on the other hand, suggest WTI has traded at a premium to nearly every North American crude grade recently, even USGC barrels at times. A return to normal price going ahead, they believe, will depend on supply losses, storage constraints, and the recovery in refinery demand.

“We expect crude supply from the US to fall roughly 1.4 million bpd (mbpd) from the fourth quarter of 2019 (Q4-2019) to (Q4-2020). If refining runs return to more normal levels, Cushing and United States Gulf Coast (USGC) markets will likely be much tighter, resulting in narrower spreads versus Brent and lower US crude oil exports. If supply losses in North America are more significant than anticipated, USGC and potentially Cushing barrels could trade at a premium over Brent,” wrote Warren Russell, a commodity strategist at BofA Securities in a recent co-authored note.

The Covid-19 related demand slump has pushed their forecast surplus to 12 million bbl/day in the second quarter of 2020 (Q2-2020) and 4.9 million bbl/day for the entire year, even as OPEC+ agreed to a production cut of 9.7 mbpd. “We expect global demand to decline by roughly 9.2 mbpd this year as COVID-19 weighs on global consumption, particularly in the transportation sector,” Russel wrote.

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