The Investment Bank That's Still Bullish On Oil

1. Copper prices rebound

- Copper prices rebounded this week, on news that there was some progress on the coronavirus.

- “Although we regarded the price slide beforehand as exaggerated, the current optimism has come somewhat suddenly,” Commerzbank said in a note on Wednesday.

- The crisis is far from over. “For as long as the virus continues to spread and the number of those infected and the number of deaths continue to rise rapidly, we see further potential for prices to fall again,” the bank added.

- The backup at the ports is causing supply chain disruptions for all types of commodities. “This is also affecting China’s largest copper smelters: the second-largest announced [Wednesday] that it will be reducing its refined copper production by 10-30% because raw material supplies are constrained, and because of insufficient personnel,” Commerzbank said.

2. Libya outage helps “Call on OPEC”

- OPEC production declined to 28.3 mb/d in January. The two red-dashed lines in the chart above from Standard Chartered show two scenarios for the rest of the year. In one scenario, Libyan oil production stays disrupted, producing at about 0.1 mb/d through 2020. In the other, production rebounds to 1.1 mb/d.

- “In the worst case (with 2020 demand growth reduced by 0.7mb/d) and with Libyan output restored quickly, the H1 stock build is 1.776 mb/d, which appears too large for OPEC to ignore,” Standard Chartered wrote in a report.

- But much depends on what unfolds in Libya. “Should Libyan output remain off-line an H1 build is balanced by an H2 draw even under our most severe demand scenario,” the bank added.

- Even if Libya stays offline, though, the “pressure on prices is likely to force an additional OPEC cut despite potential H2 tightness,” Standard Chartered concluded.

3. Coronavirus flattens Brent curve

- Brent has declined by $11 per barrel since the onset of the coronavirus.

- “With most of this move driven by a flattening of the forward curve, the market is effectively pricing in a large demand shock and commensurate increase in inventories,” Goldman Sachs wrote in a note.

- That pushed the futures curve into contango – when near-term contracts trade at a discount relative to longer-dated contracts. That reflects concerns about short-term surplus.

- Goldman Sachs’ model suggests the futures market is pricing in demand destruction on the order of 750,000 bpd, and a hit to GDP by 0.44 percentage points.

- “Such a global GDP hit would be even larger than the worst-case scenario that our economists laid out in their latest assessment of a two quarter hit, suggesting that the oil market is already pricing in a significant demand shock relative to other assets,” the investment bank said.

- However, because the market is already pricing in this negative shock, oil prices may have less room to fall from here.

4. Raymond James is still bullish on oil

- Despite the coronavirus crisis and the recent meltdown in oil prices, Raymond James is still bullish on oil this year and next.

- The main reason for that is the “sharp slowdown in long-lead-time oil project startups,” the bank said. “The pace of project startups is slowing, and in fact slowing meaningfully. The dearth of new startups adds to our view that non-OPEC ex-U.S. supply is likely to flatten out, or even decline, over the medium-term,” Raymond James said in a report. “Combined with the productivity slowdown in U.S. shale, this points to the need for sustainably higher oil prices to stimulate more industrywide capital spending.”

- Project startups averaged 2 mb/d per year over the past half-decade. But that average slowed to just 1.1 mb/d for 2020 and 2021.

- In short, fresh supply hitting the market this year and next will come at about half the rate it did over the past five years.

5. China’s oil demand plunges

- In a report from JBC Energy this week entitled “Contagion Continues,” the energy firm said it lowered its estimate of oil demand from China by 190,000 bpd this year. February and March alone are set to see 1 mb/d of a demand cut.

- “Sinopec has already confirmed run cuts of some 600,000 b/d for February,” JBC said.

- Others see a much larger hit. Chinese energy executives say the decline in consumption could be as much as 25 percent, or about 3.2 mb/d, according to the FT. That’s equivalent to 3 percent of global demand, a staggering sum.

- “The epidemic has dealt a huge blow to our business,” said one executive at a Chinese refinery, according to the FT.

6. Shipping index hits all-time low

- The Baltic Exchange’s capsize index fell to an all-time low, dipping into negative territory this week. The index makes up part of the Baltic Dry Index, which is an important proxy for global shipping activity.

- “We work in an environment where everything is just in time and it can have a knock-on effect pretty quickly once the wheels of the world stop turning,” a London-based shipping broker told the Wall Street Journal.

- The capsize index tracks commodities such as iron ore and coal.

- The broader Baltic Dry Index, which tracks shipping rates, also fell to a more than five-year low.

7. Oil majors falling out of favor

- The share prices of the oil majors continue to decline. ExxonMobil (NYSE: XOM) fell to its lowest level in 10 years. Goldman Sachs cut its outlook for Exxon to Sell from Neutral.

- The bank warned that the supermajor’s returns are eroding, and it cannot cover its dividend. Exxon is spending heavily, a “counter-cyclical” approach to try to grow through the market downturn.

- Chevron (NYSE: CVX) is taking a different approach, cutting spending and leaning on newly operational megaprojects while also scaling up in the Permian.

- As Bloomberg notes, neither approach is working. Both recently reported their worst quarterly performances in years. Both companies are “competing in a sector that has systematically destroyed value for investors over the past decade,” Mark Stoeckle, a Boston-based fund manager, said in a Bloomberg interview.

- Energy now accounts for just 3.8 percent of the S&P 500 Index, down sharply from a peak of 16 percent in 2008.