COVID-19 Impact on Global Oil Industry
Published on 08 May, 2020
The oil industry is experiencing a dual supply and demand shock due to COVID-19-led lockdown measures across the world. In 2020, global oil demand is expected to decline by 9.3 mbd compared to last year, posing severe economic threats in oil producing countries.
With over 180 countries reeling under the impact of COVID-19, the global oil industry is in the midst of unprecedented circumstances. Since early 2020, the sector has witnessed drastically lower demand, oil price war, plummeting oil prices, and reduced consumption of chemicals and refined products.
Global oil crisis: In February 2020, China, the world’s second largest oil consumer, saw a dramatic drop in oil demand due to COVID-19 lockdown. By mid-March, WHO declared COVID-19 a global pandemic, and most countries started implementing partial or complete lockdowns to deal with this crisis. This led to a substantial decline in oil demand worldwide. Brent crude that was trading at ~USD 70 per barrel at the start of the year plunged to USD 21 by March end, the lowest price in two decades. To counterbalance dwindling demand, Saudi Arabia and Russia tried to negotiate a production cut but the discussion failed, starting a mistimed price war between the two countries.
On April 9, 2020, OPEC+ (of which Saudi Arabia and Russia are key members) finally came to an agreement to reduce oil production; however, the measure was considered too little, too late. Oil prices had fallen by 60% between February and April.
On April 20, US oil prices – West Texas Intermediate (WTI) – reached below zero, implying that, in order to avoid storage costs, producers were willing to pay traders to take deliveries. By April 27, WTI was trading at USD 15.72 per barrel and Brent crude at USD 21.11 per barrel.
OPEC+ production cuts to offset declining demand: As part of the OPEC+ agreement, member countries have agreed to slash production by 9.7 mbd in a bid to offset the reduction in demand. According to the International Energy Agency (IEA), global oil demand is expected to fall by 9.3 million barrels per day (mbd) Y-o-Y in 2020. For April, demand was estimated to be 29 mbd less than last year, whereas for May, it is projected to be drop by 26 mbd Y-o-Y. A slight recovery is anticipated by June; however, demand will still be 15 mbd below last year’s level. Since production in April was high, the effective production cut in May 2020 will be 10.7 mbd.
As per IEA, the available global storage capacity for oil may run out by mid-year. Chartering costs for very large crude carriers have skyrocketed and increased more than 2x since February; meanwhile, the cost of floating storage has also increased. Production cut initiatives by OPEC+ are expected to provide some relief from the oil glut that has burdened the oil & gas logistics industry.
Economic impact: While lower oil prices are unlikely to help the common people who are confined to their homes, several countries such as China, India, and South Korea have taken advantage of the historically low prices to stockpile their strategic reserves.
While oil consuming countries have capitalized on the falling prices, oil producing countries are facing economic threats. In Iraq, oil accounts for ~90% of government revenue. In the current situation, the government is struggling to pay salaries and pensions as well as fulfil its other obligations.
Countries such as Mexico, Venezuela, and Ecuador that also depend on oil income are in a vulnerable position. Nigeria, Africa’s largest oil producer, has requested for a USD 6.9 billion emergency fund from IMF, World Bank, and African Development Bank to combat coronavirus.
In countries such as Saudi Arabia, Russia, and the USA, the fiscal breakeven price for oil is USD 82.6, USD 49.2, and USD 40–55, respectively. Given that oil prices are nosediving, even these nations will inevitably face the economic repercussions. For example, Whiting Petroleum (a US oil exploration and production company) and Diamond Offshore Drilling (a US contract drilling service provider) have already filed for bankruptcy in April, 2020. IEA projects that global capital expenditure by exploration and production companies would be down 32% in 2020 from last year’s level.
It is difficult to forecast when the oil prices will stabilize; therefore, until then, oil companies will have to endure the strain of the industry slowdown. However, they can consider the following measures in the short and long terms:
- Follow an employee first policy and maintain safety for employees working during lockdown
- Evaluate the company’s spending, upcoming investments, etc., and postpone or discontinue non-essential spending
- Consider M&A opportunities, especially for non-core assets
- Diversify from oil to newer/cleaner sources of energy
