Don’t mistake oil price bump for a licence to pump
For the first time in weeks the oil news isn’t all bad. Output cuts are starting to make big inroads into supply, and demand is beginning to recover, ever so slightly, as something more like normal life resumes in parts of the world.
But there’s a double risk on the horizon: Just as lifting lockdowns too soon could bring a second spike in virus infections and deaths, loosening the hard-fought restraint in oil production too soon risks a second oil-price collapse.
With the easing of draconian measures to restrict people’s movement, the first signs of demand picking up are still very tentative and localised. This is about beginning to claw our way up from the depths of April’s demand destruction.
It is still far from the year-on-year growth we experienced before the novel coronavirus struck, or from any kind of meaningful start at drawing down ballooning stockpiles. But it might just be an initial turning of a corner — as long as there’s no need to stop the global economy again to keep the Covid-19 outbreak under control.
The way China has got back to work is instructive.
Congestion on roads in major cities has soared during peak commuting hours, but it remains depressed outside those times, with traffic levels still well below normal during the weekend and on holidays.
Meanwhile, people are choosing to drive rather than take public transport, boosting gasoline demand, a trend that’s likely to continue for a considerable time in big cities around the world. In Beijing for example, subway passenger numbers are still more than 50% below pre-virus levels, according to analysis by Bloomberg NEF.
As some parts of the US begin to ease lockdowns and people take to the roads again, gasoline demand has slowly started to recover after falling to more than a 30-year low in the first week of April. And gasoline stockpiles, which reached record levels in early April, have started to come down. But consumption is still only at a level last seen in the early 1990s and efforts to reopen businesses and get people back to work will have to become much more widespread before it gets back to anything like “normal”.
Jet fuel demand was hit even harder and is still down by about two-thirds from five-year average levels for the time of year. It is showing little sign of recovering, with planes still grounded and much uncertainty over when and whether people will embrace flying again.
By contrast, diesel demand was never hit as hard as other transport fuels, in part because trucks have kept on trucking. And the onset of planting season across much of the northern hemisphere may provide a boost for distillate fuels in the coming weeks. Nevertheless, stockpiles are still rising, in part, because refiners are producing more of the stuff as they try to minimize the amount of jet fuel they’re making.
But we are still a long way from seeing much relief for crude producers and they need to continue exercising restraint.
On the supply side of the equation, reductions are finally kicking in. On May 1, the output cuts of nearly 10 million barrels a day agreed to last month by the so-called Opec+ group of countries, led by Saudi Arabia and Russia, finally came into effect.
Early signs are that big cuts are actually being implemented by both countries. Russian production of crude and condensate, a light form of oil extracted from gas fields, averaged 9.5 million barrels a day in the first five days of May, according to Interfax Information Services Group. Saudi export shipments are also down, according to tanker tracking data monitored by Bloomberg.
Market-driven declines are also happening elsewhere. Weekly data for the last week of April show US production falling below 12 million barrels a day for the first time since February 2019, excluding the impact of Tropical Storm Barry. Monthly figures show it’s been in decline since November, confirming what I wrote here. However there is still too much crude being pumped out of the ground and into storage. US crude stockpiles are still rising, even though the rate of increase has started to slow.
Consultants Rystad Energy see US production falling by a further 1.3 million barrels a day by the end of June, based on early communication from producers.
But let’s not get carried away. This is just the start of the beginning of a recovery, or maybe just the first glimpse of the end of the collapse. Rising consumption and falling production are only just starting to narrow the gap between supply and demand, and the massive inventory buildup hasn’t stopped yet, much less gone into reverse.
The real risk may be that when all the financial pain of output cuts — and the human cost of job losses — starts to pay off with higher oil prices, producers take it as a signal to restart the pumps, as if the whole oversupply problem got solved overnight. The output restraint has to last long enough not only for supply and demand to be brought back into line, but for stockpiles to be brought back down again.
It’s important for everyone to keep that in mind.
While the impact of the collapse in oil price and production volumes has created hardship for everyone who depends on the business, the effect is particularly devastating on those where oil is the life-blood of the economy and there are no reserves to draw on. You think it’s bad in Midland, Texas? Try Warri, Nigeria.
Julian Lee is an oil strategist for Bloomberg.