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Irina Slav

Irina Slav

Irina is a writer for Oilprice.com with over a decade of experience writing on the oil and gas industry.

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The Chinese Trick That Could Save Oil

China is buying cheap oil to fill its strategic oil reserves--a move that could save the oil industry.

But can it really save the entire global oil industry? Some say yes, while others claim it is merely magical thinking.

The notion that China could save the oil industry started earlier this month when the first preliminary data about March imports started coming in, and it has been growing louder. 

China began to ease its crippling lockdown a few weeks ago, sparking hopes that oil prices will start rising as industrial activity and travel begin to recover. Data showed that China had doubled its rate of oil stockpiling during the quarter when the population was effectively quarantined, feeding the aforementioned hopes.

The reports about China soaking up cheap oil are rushing in. Trader spirits must be high. And yet, some have warned that even China can't save prices this time. The latter argument is supported by the fact that despite these reports of rising Chinese imports of cheap crude, prices are not exactly moving up. They are down. It's a buyers' heaven.

Analysts from Jefferies called China the biggest winner of the current situation in oil. Oil is cheap, and it remains cheap despite increased buying.

"The biggest winner is China since it is the world's largest energy importer," Jefferies said, as quoted by Yahoo Finance. It does make sense, indeed, that the larger the importer, the greater the benefits of cheap oil, but there is one problem that is turning into the industry's new nightmare: storage.

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China has filled up 65 percent of its commercial reserve capacity, according to data from Eurasia Group. It may sound comfortably lower than 100 percent, but in oil storage, there is no such thing as 100 percent capacity utilization.

The 31.5 million tons that China has amassed in its storage facilities is, in fact, close to the maximum they can hold: "This is close to the 70% storage utilization red line which is normally regarded as full storage capacity," Eurasia Group told Yahoo Finance, noting that "Additional stockpiling capacity has been limited by a steep buildup of crude owing to refining activity disruptions from the coronavirus outbreak before the oil crisis," the firm said.  

Full capacity has forced the country to "divert cargoes elsewhere," Eurasia Group cautioned.

The whole world is running out of storage space, so this problem is not confined to China. 

Fresh data from analytics firm OilX showed that for the first time ever, Chinese refineries' run rates were higher than those of U.S. refiners as Chinese teapots cranked up processing while U.S. refiners continued to reduce their run rates.

And yet the question must be asked: to whom will the teapots sell this increased output? Demand for oil has yet to recover, and China's Asian neighbors, which are its closest fuel buyers, are bracing for a second wave of covid-19 infections.

The outlook for the global economy does not suggest that there will be any winners. 

While Europe and the United States will suffer more than Asia, even the powerhouses in the southeastern part of the continent will suffer the consequences of the pandemic. The starkest warning came from the International Monetary Fund. It said that Asia as a whole will register zero economic growth this year. 

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In case anyone's wondering what's so special about that: Asia has not recorded zero growth in six decades.

And there's more: the sigh of relief that the worst is over and China will gradually return to normal may have been premature. Like its neighbors, China, too, is preparing for a possible repeat of the outbreak. Meanwhile, some European countries and U.S. states are preparing to start relaxing lockdowns. A WHO official warned this week premature relaxation of the lockdowns would increase the risk of a second wave of infections. It looks like there's a lot of talk about a second wave.

If that wave hits, some oil grades could stay in negative territory for longer than a day. The first wave has already crippled every economy that it touched. A second one will lead to longer lockdowns, and whatever demand improvement that we've seen from China replenishing its strategic reserves will be obliterated, with storage already full, even assuming there are storage facilities no one outside of China knows about and satellites can't spot.

The global oil industry has never been in such bad shape as it is now. No crisis in the past has featured such a severe blow to demand, not just in a couple of markets, but everywhere. No industry can be prepared for this. It will have to play it by ear, which would likely involve a further squeeze on production and prayers for the second wave to remain hypothetical. If it doesn't, all bets are off.

By Irina Slav for Oilprice.com

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