The oil industry has just endured one of the most testing months in its history.
It is difficult to imagine an immediate recovery. Oil executives are rightly cautious. But look beyond the wasteland and there are a few signs that the oil market is, if not quite recovering, at least stabilising.
Demand for oil collapsed by about a third in April as coronavirus-linked lockdowns and travel bans took hold. Unwanted barrels were shoved into every available nook and cranny, from river barges to salt caverns, as a 100m barrel-a-day market started to creak at the seams.
Oil prices did not so much fall as implode. The US benchmark briefly turned negative as the lack of available storage forced traders to pay rivals to take crude off their hands.
Retail investors from Florida to Shanghai, betting on oil’s eventual recovery, were among the immediate victims. But the shock reverberated through the entire energy sector in job losses and project cancellations.
The alarming sight of negative prices in the US forced a quick reckoning for oil producers. Those that were hoping to wait out their rivals, believing they would blink first and throttle back production, had little choice but to respond. The number of rigs drilling for oil around the world has fallen by a quarter since February, according to Baker Hughes.
For those producers, the thought of paying customers to take a commodity — in which they had invested billions of dollars to find and extract — quickly focused the mind.
Taps got tightened, in some cases overnight. High-cost production in the US and Canada is now falling faster than many had dared predict, and could be down by 3m b/d by the end of May.
Cuts agreed in mid-April by Opec and its allies such as Russia are now starting to become a reality. Other countries such as Norway, the largest oil producer in western Europe, have mandated cuts to output from June. Producers around the globe may not shut down fields entirely, but few are now looking to maximise output.
At the same time as supplies are being tightened, the worst of the demand collapse is likely to have passed.
Lockdowns, at least in developed and big oil consuming economies such as the US and Germany, appear to be on a downward slope. Oil demand will not snap back overnight, but if it is down by “only” 20m b/d by June rather than the 30m or so predicted in April the rapid build-up in unwanted stockpiles should ease, while the world is producing significantly less oil.
Some large traders, including Trafigura and Mercuria, even think the market could move into a small deficit this summer, though it will take a long time to chip away at large excess inventories.
After weeks of violent price swings, Brent crude has stabilised near $26 a barrel. The US benchmark, West Texas Intermediate, is back to near $20.
Neither is the sign of a healthy industry. Crude is still down about 65 per cent since January. But the bloodletting has eased.
Goldman Sachs is predicting Brent could be back at $65 a barrel by the fourth quarter of next year, as supply tightens and demand is restored.
But a recovery is predicated on the scale of the disaster being vast enough to have forced painful, and long-lasting, changes. A potential second wave of the pandemic could trigger a rerun.
The crisis has also raised pointed questions about the future of an industry already facing the threat of peak demand in the next decade or so.
Air travel, which the industry was banking on for a large chunk of oil demand expansion, now looks vulnerable. Analysts are now weighing the positive effects of rising incomes in emerging economies against an increased reticence to travel.
Some in the oil sector see hope in petrochemicals, if the backlash against plastics and food packaging weakens after the pandemic. This feels optimistic, though, given the rise of biodegradable alternatives already in the market.
Royal Dutch Shell’s chief executive, Ben van Beurden, admitted last week that he questions whether oil demand can return to pre-crisis levels. His response has been not just to cut output but to “reset” the company’s dividend — a decision taken with one eye on an uncertain future.
This might turn out to be overly pessimistic — or perhaps optimistic, for the majority of people more concerned with the health of the environment than the future of the oil industry. But it also shows a sector still in the grip of a crisis that extends far beyond the immediate horizon.
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