Oil prices remain stable despite rising pressure over the last week. Economic data from the United States fueled bearish sentiment despite encouraging data from the EIA. The U.S. economy is expected to have shrunk by 32.9% in Q2-2020 according to a recent statement by the head of the U.S. Federal Reserve. The expectation of sluggish demand is weighing on the economic stimulus package proposal currently debated in the US congress. Furthermore, the impact of this economic stimulus remains questionable as the number of jobless people in the United States remains considerably high.
The German economy, the largest in the eurozone, shrunk by 10.1% during the same period. The European Commission has revised down its forecast for the EU economies in 2020 from -7.4% to -8.3% while most economists are expecting a much deeper global recession this year and a slower recovery next year. These forecasts are not good news for oil demand forecasters as it means that transport fuels demand could take longer to recover than previously expected.
Current prices aren't high enough to restore U.S. production
Currently Brent prices are holding within the $43-45 range due to alarming rise in COVID-19 cases globally, raising concerns of a 2nd wave and new lockdown measures. The United States death toll soared to more than 150 thousand deaths last week while Brazil and Australia set new records of deaths and infections.
Generally, we have seen prices in July much higher than their levels in June, supported by both a fuel demand recovery and increasing economic activity after major lockdown measures in April.
Brent averaged $43.44 in July, $0.44 higher than our forecast, while WTI averaged at $40.76, $2.76 above our forecast. Clearly, WTI contracts performed much better than Brent contracts. The spread between the two grades currently stands at an average of $2.65 for the month of August, compared with an average of $9.87 last April. Nonetheless, Brent and WTI 1-2 month spreads continue to be in contango which is a source of concern at a time when OPEC and its partners are set to gradually increase supply in August.
It is evident that current prices are not high enough for U.S. drillers to bring back production.
Related: Saudi Arabia May Be Forced To Cut Oil Prices Once Again
Last week, the number of oil drilling rigs declined again by 1 rig to return to 180 active oil rigs. In the previous week, we have seen the first rebound in the US drilling activity by 1 rig, following 18 weeks of continuous decline from 683 rigs to 180 rigs. U.S. oil production continues to be unchanged at 11.1 million bbl/d for the 2nd consecutive week. Things may worsen for the U.S. oil industry in the case of a 2nd wave and prices can be expected to continue to be at this level or lower in Q3-2020.
U.S. commercial crude inventories are seen to have peaked
On the other hand, we are observing that U.S. commercial oil inventories have peaked at nearly 540 million barrels, and last week, a 10.6 million barrels decline was reported, which is the largest since the beginning of 2020. U.S. crude imports also declined by around 1 million bbl/d, and a moderate increase in exports by 0.218 million bbl/d may also have contributed to the decline in the inventories. Additionally, refinery runs rose by 0.39 million bbl/d, w/w, despite imposing lockdown measures in several U.S. states. The moderate increase in gasoline and distillates inventories by 0.7 million barrels and 0.5 million barrels, respectively, is an indication for moderately slumping demand. Furthermore, total petroleum products supplied in the United States remains around 17% y/y according to the EIA's four-week average numbers.
Currently, traders expect demand to take longer to recover than previously expected, as the recent surge of COVID-19 in the U.S. crushed hopes of rapid recovery for gasoline and diesel. Last week, money managers reduced their net long positions by 20.90 million barrels w/w, for Brent contracts, and 15,82 million barrels w/w, for WTI contracts.
Related:
Currently inventories stand at 526 million barrels which is 89.4 million barrels higher than their level at the same time last year. The OPEC+ output cuts, which were implemented last May have had a strong effect, yet we expect inventories to approach their pre-crisis levels until Q2 2021.
Demand recovery will be a major concern in August as COVID-19 cases resurface
The next OPEC+ JMMC is expected to take place on the 18th of August, during which the cartel will review the latest market developments. In case of severe demand shocks, we expect OPEC+ to revise its current production policy and possibly recommend additional cuts. The odds of OPEC+ making additional cuts, however, remain very slim, and currently, it is more likely that OPEC+ will stick to its current production agreement. CMarkits expects oil markets to remain under pressure in August as new lockdown measures could significantly impact the crude demand picture.
By Yousef Alshammari for Oilprice.com
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Dr. Yousef Alshammari is the CEO and Head of Oil Research at CMarkits, London, UK. He is a former Research Fellow at OPEC with a… More
Comments
Since its inception in 2008, it has been an unprofitable industry torn apart by geopolitics and economics. The geopolitics has seen the United States talking of energy dominance and oil self-sufficiency. It could have been far less unprofitable if only it put aside dreams of energy dominance and concentrated on profitability. But this was never to be with the industry producing recklessly and excessively to achieve geopolitical gains at the expense of economics. The shale industry’s Achilles heel has always been the steep depletion of reserves amounting to 70%-90% in the first year of production.
With a breakeven price ranging from $48-$71 a barrel (depending on whether ExxonMobil and Chevron are the shale drillers or the small independent drillers), current prices in the range of $40-$45 are not conducive enough for the overwhelming majority of shale drillers to make a comeback.
Furthermore, the continued decline of oil rigs has led to a steep decline in US shale oil production. It is estimated that it takes some 750 oil rigs to produce 7.0 million barrels a day (mbd) of shale oil accounting for 62% of US oil production. With current number of rigs at 180, one could rightly assume that shale oil production is currently 1.87 mbd. If we add some 4.9 mbd of conventional oil production we come to a figure of 6.77 mbd for current US production.
As a result, US oil production will be struggling this year and the following years to even produce 6-7 mbd leading to a rise in US crude oil imports from 9 mbd in 2019 to 12-13 mbd this year and the coming years.
Still, the US Energy Information Administration (EIA) will continue to hype about US oil production telling the world that US production has only declined from 13 mbd to 11 mbd against overwhelming evidence to the contrary.
Dr Mamdouh G Salameh
International Oil Economist
Visiting Professor of Energy Economics at ESCP Europe Business School, London