Coronavirus and the oil market

With travel and economic activity across the world restricted, demand for transport fossil fuels has dropped.This reduction in demand is particularly notable in China, the world’s largest energy consumer, which last year accounted for more than 80% of global oil demand. Electricity demand and industrial output in the country has been functioning far below their usual levels, with coal consumption at powerplants down 36% and the countries’ oil refining capacity reduced by 34%.

For the oil market, the consequence of this reduced demand has been particularly marked, resulting in a twofold challenge: a drop in oil value and a consequent price war.

OPEC+ cut deal

The biggest issue came in March when the Organization of the Petroleum Exporting Countries and 10 other oil producing countries (OPEC+) failed to agree on stable production levels. With Russia unwilling to accept a production cut of more than 1m barrels per day (bbl/d) to offset falling demand, oil prices fell to a multiyear low. By mid-March, crude prices were down to 30%, sparking a selloff in crude oil.

With the short-term situation proving fluid as governments around the world initiate several control measures, there is still a great amount of uncertainty over what the full impact of the virus might be for the oil industry, and how things will develop – even with the recent OPEC+ agreement to hold back about 10% of the world’s supplies in May and June, and continue with lower reductions until April 2022.

Black swans and barrels

The oil industry has survived hardship, including the 2008 financial crash, and will survive this latest ‘black swan’ event. Many in the industry are confident in their ability to weather market volatility as they did during low-price storms in 2008 and 2016.

However, producers and supply chains have had to adapt. Some oil-producing countries, such as Saudi Arabia, Iraq and Nigeria, have opted to sell crude oil at discounted rates, and several oil companies are scaling down on their exploration, production and new projects budget. Oil majors such as Royal Dutch Shell and Chevron are taking immediate steps to ensure they are well-positioned for the economic recovery. They are significantly reducing their capital spending plan and suspending share repurchases to prioritise long-term value and protect dividends.

Many are looking towards the likely resurgence of oil demand in 2021

Cooperation is crucial

The crisis has revealed certain truths about international cooperation, governance, and the energy system. Companies and oil industry bodies are calling for governments to put measures in place to support oil industries. In the US, there has been a focus on mobilising stimulus funding to purchase crude oil for the Strategic Petroleum Reserve to help prop up gas and oil producers. Likewise, industry trade unions in the UK met with Scotland’s energy minister to discuss futureproof plans for the industry’s skilled workers operating in the North Sea. Such initiatives should help protect the industry and safeguard its workers.

With Saudi Arabia now offering buyers discounted oil prices, which could lead to further price falls for global oil markets as demand for energy continues to fall, countries must work together on proposed market solutions. We hope OPEC and the US can contribute to the stability of oil prices and return to the negotiating table. Energy cooperation has been a solid pillar of the transatlantic cooperation in the toughest of times, so the importance of maintaining this cannot be over-stated.

Looking to 2021

In the longer term, many are looking towards the likely resurgence of oil demand in 2021. Once the outbreak is controlled, the global economy, particularly China and India, is expected to rebound at a notable rate. As a result, global oil demand could double or triple to make up for the lost demand.

The oil industry is resilient and well- positioned to withstand this challenging environment and weather market volatility. For oil companies, the priority is to put the health and safety of staff and customers first, and ensure the safety of business operations.

While it is too early to predict the energy outlook for the future as a result of COVID-19, the world will move beyond this, and the business case for streamlining operations and investing in resilience planning will be reinforced and widely accepted.

By Boris Ivanov, Founder and Managing Director, GPB Global Resources

Image credit | SBM-Offshore