Bloated Oil Storages now Worthless?

In a previous blog, we discussed how oil barrel prices went from $65 a barrel to $30 a barrel. The prices fell to $20 on 17^th April 2020. These prices can now be considered expensive because what happened on Monday night, is just unbelievable and will be remembered for the rest of our lives.

With oil demand practically drying up, the production could have been slowed down. But due to the disagreement between Saudi Arabia and Russia, regarding a production cut in order to stabilize the prices, nobody cut their production. In fact, Saudi Arabia only took up this opportunity to offer oil barrels at a lower price at new marketplaces to expand its own market share.

But offering a lower price does not mean that the demand will shoot up, because in any country you name, businesses and production alike, have been halted. So, the next thought? Let’s buy oil and store it, while it is available at a cheaper rate. But, there is only a limited amount of oil that one can store. Running out of storage will only make the oil prices come crashing down.

So at this the point, American president, Mr. Donald Trump had to step up. He asked the oil-producing nations to cut oil production so that the above mentioned scenario does not occur, because it can be a nightmare to many. Major oil producers agreed to cut down the production by 10 million barrels a day. The OPEC nations cut their production by 23%. Russia and Saudi Arabia reduced production by 2.5 million barrels a day (BPD).

Then there’s Mexico, who refused to take up the deal, but did make a counteroffer. They offered to cut down production by 0.1 million barrels a day, as opposed to 0.4 million barrels per day’s proposed production cut. This is because Mexico is heavily dependent on oil production and the various securities, which have oil as an underlying asset. The refusal of the deal by Mexico, only got Saudi Arabia furious and thus the Aramco origin country declined the offer. This Mexican standoff, had now scrapped the proposed deal, of at least 10 million BPD cut in oil production by OPEC.

But Trump had made reducing oil production his top priority, and decided to ‘help’ Mexico, buy asking them to reduce production by 100,000 BPD. The help provided by the US was that it agreed to cut its oil production by another 250,000 BPD. But at this point, Russia and the Saudis were still having a rat race in their oil price war.

But it is difficult to quickly fix the oil industry's problem. The oil infrastructure is complicated and its not easy to just turn the taps off, whenever needed. In addition, countries like Saudi Arabia and Russia, whose economies are reliant on oil, only reluctantly cut production. In these situations, such production cuts can help, but can take up months. 

Now, why will 20^th April 2020 be remembered in history?

On Monday, the prices fell to a historical negative. This means, sellers were paying buyers to buy oil barrels. On Monday night, the oil prices initially fell to $9 a barrel. This price was for US WTI crude oil. In no time, it fell to $2 a barrel, meaning which, at this point, you could have a barrel of oil at ₹150 only! Which is also the price we pay for a family pack of ice cream, so by the time you decide which ice cream you want to buy, the oil price has gone down to a crippling USD 0!

At this point, the market place for producers had just disappeared. But this wasn’t the end, the prices hadn’t reached their destiny yet.  It went from $65 a barrel at the start of the year, to a -$15 a barrel, and further to a historic -$37.53. This means sellers had to PAY $37.53 to buyers to sell an oil barrel.

The situation could be beneficial for India, as India is the second largest consumer of oil in the world. But again, the current scenario of lockdown does not guarantee the oil price situation to work to our advantage, as fuel demands fell by 50% in April's first two weeks.

According to energy experts, the world has an estimated storage capacity of 6.8 billion barrels and as of now, 60% of it is used up. Most of the South African countries have their storage units, completely filled and it was only a matter to days to get those warehouses filled up. The global demand had decreased by 90%. But bloated oil storages got the oil prices trembling down to a negative.

After what happened yesterday, many companies would have been destroyed. Because of this, many policymakers are now intervening more forcefully. So, bankruptcy for some of these companies and more oil cuts are on the way.

Thank you.

Regards,

Nishi Sanghvi,

Kautilya,

IBS Mumbai.