A barrel of oil for zero dollars

US, WASHINGTON (ORDO NEWS) — For eight dollars in Wyoming, a large “cowboy” state in the northwestern United States, you can now buy three bags of milk, six bottles of water, or 159 liters of Asphalt Sour, a high sulfur oil. A few days ago, this variety was even cheaper. At the moment, one barrel in America was trading at minus 19 cents.

That is, those who bought Asphalt Sour were even paid extra.

The outbreak of coronavirus has stalled global economic growth. Almost half of the world’s population is now forced to live in quarantine, factories around the world are idle, planes remain on the ground, ships in ports. That is why oil demand has fallen sharply. According to experts, its consumption fell by 24-35 million barrels per day. In other words, the reduction in consumption ranged from a quarter to a third.

In some oil-bearing regions of the world, the situation is dramatic: oil prices have become negative. They fell below zero, for example, in Wyoming. After all, “black gold” mined from the bowels of the earth cannot be stored simply on the street – and the American oil storage facilities, in which fuel is stored until better times, will soon overflow. The Asphalt Sour example shows how bad things are in the global economy.

It turns out that oil producers have to pay extra to their customers, if only they would take the goods. This paradoxical situation clearly demonstrates why US President Donald Trump suddenly turned into the main “oil diplomat” and called on leading oil producers to cooperate.

The logical conclusion: the deal is unstable

The alliance of OPEC member countries and Russia – the so-called OPEC + format – during the four-day talks made a historic decision to reduce oil production by more than 20% per day. A total reduction of 9.7 million barrels per day in May and June. And then, before the end of the year, the parties to the transaction will produce 8 million barrels less. Other oil producers that are not members of OPEC +, for example, the United States, Canada and Brazil, are willing to voluntarily cut production by 3.7-5 million barrels per day.

This unique deal should put an end to the price war between Russia and Saudi Arabia. However, the compromise reached is rather fragile and is able to stabilize prices only in the short term.

At the beginning of the week, quotes of Brent and WTI varieties grew a little less than 4%. “This is an unprecedented contraction in a historically unique time,” commented Citibank oil market expert Ed Morse. “But the compromise was reached late and will no longer be able to prevent the fact that oil storage facilities will overflow and prices will drop to single digits.”

A similar opinion is shared by Goldman Sachs experts. “This is a historic deal, but not enough,” said Jeffrey Currie, oil strategist at the bank.

The trade-off actually has two serious flaws. The United States is not officially involved in the deal, which, incidentally, is the second largest oil producer in the world. Trump has constantly emphasized that low quotes will automatically lead to the fact that Americans will have to limit production, because it is simply unprofitable for them to produce oil below cost. However, he cannot guarantee this.

Unlike other major producers – Russia and Saudi Arabia – the US president cannot directly influence private American oil concerns. They are not required to take into account his opinion.

In addition, a contradiction is obvious. If a compromise is allowed to achieve the goal of raising prices, then American companies will automatically re-enable their rigs. Due to the relative flexibility of the new shale oil production methods, this is entirely possible. So the logical conclusion suggests itself that the deal is unstable.

Moreover, even within OPEC itself, there is no agreement. So, for many observers, it was a surprise that Mexico opposed the collective reduction in oil production by 23%. According to quotas, this country was supposed to reduce production by 400 thousand barrels daily, but it would only reduce by 100 thousand. And the figure of 9.7 million barrels itself causes conflicts: initially, OPEC + countries spoke of 10 million barrels.

A signal about a nerve market problem

This Latin American country is not interested in a larger reduction in production for very special reasons. Mexico has insured itself in advance in case of a fall in prices and receives a fixed price for each barrel. It also destabilizes the deal. The fact that Mexico decided on a “solitary rebellion” is symbolic.

In fact, the compromise reached by the OPEC countries, of course, has historical significance, but, for example, Saudi Arabia has always been of fundamental importance for the cartel to work together. Therefore, manufacturers in Riyadh insisted that there should be no exceptions. But after two days of tough negotiations, they still surrendered.

This, however, opens the doors (even gates) for other OPEC members who also want an exception made for them, which weakens the power of the cartel. From the history of OPEC, it is already well known that far from all and not always comply with the established quotas, and therefore the prospects for observing a large-scale agreement obliging all oil producing countries to reduce production raise even more doubts.

So the historical compromise is not too stable, and this is a signal of a problem for market participants who are already in great doubt. After all, they already have to adapt to a new, previously unknown to them price reality, in which there are different (whether high or low) prices for the same grade of oil.

“The negative price situation is extreme,” said Benjamin Louvet, commodity market expert at the OFI Asset Management investment company. “But it shows how tense the market as a whole is.” Not only Asphalt Sour, but also other grades have fallen in price to an absurd level. Canadian WCS oil recently dropped to $ 4 a barrel. And oil from the Perm basin in Texas, at the largest field in the United States, now costs about $ 10. “It’s cheaper than an empty barrel,” said Louvre.

Experts fear that the situation will become catastrophic

Even the price of an American WTI brand of great importance to the market, according to a Goldman Sachs report, could fall below zero. Reason: after an outbreak of coronavirus, manufacturers do not know where to store the extracted fuel. And since the aforementioned largest producers – America, Russia and Saudi Arabia – have refused to reduce production in recent weeks, fearing to lose their market share, the US and other countries are now running out of oil storage facilities.

In addition, the Americans, apparently, offered Mexico to pump the very 300,000 barrels that they should reduce production into their strategic storage facilities to prevent this volume from reaching the market.

China, meanwhile, has recently begun to fill up its storage facilities. But this, according to experts, will not be enough to compensate for the historical drop in demand and prevent an oversupply of oil in the second quarter of this year.

The Brent variety, which plays a key role in the market, is less affected. After all, this oil is extracted in the North Sea, and it can be relatively easily transported to any region of the world or stored in tankers.

The price of WTI oil is determined in the small town of Cushing in Oklahoma, almost 1000 kilometers from the nearest port. And shipping fuel there costs money. Therefore, according to Goldman Sachs experts, prices with extremely weak demand (such as now) may well go into the negative zone.

Currently, Brent crude is worth $ 32.66 per barrel, WTI is $ 23.67. These are historically low rates. That is, Brent costs 1.38 times more than WTI. There has never been such a big difference between the two, and this clearly shows how dramatically the situation is developing. At the same time, WTI quotes may decline even more.

Oil storage facilities around the world now have space for 3 billion barrels. With the current overproduction of oil at 24 million barrels per day, this is enough for less than two months. “The situation is already bad,” said Louve. “In the coming weeks, it could become completely disastrous.”

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