Primary Vision Insights – March 30th, 2020

Primary Vision Insights – March 30th, 2020

By Mark Rossano

Sections

  • Reduction of Frac Spreads Accelerates
  • Storage and Economic Stimulus Will Fail to Bridge the Gap
  • Global Economic Data Points Paint a Frightening Picture
  • Oil Demand Falling as 2.6B face lockdowns
  • India Starts Down the Lockdown Road
  • European Lockdowns Ramp with UK Joining the Fray
  • OPEC+ Politics and Flow- The Reality Tells a Different Story Versus Consensus
  • Politics Drive OPEC Policy
[restrict]

Reduction of Frac Spreads Accelerates

The national frac spread dropped by about 18 week over week, with more reductions on the way. We have already discussed Halliburton laying people off, but they are far from the only ones with Schlumberger/ SMID Cap OFS/ E&Ps up and down the cap scale reducing work forces. Many layoffs have been announced or will be over the next several weeks as CAPEX is slashed, and the U.S. faces an uphill battle as realized prices only worsen across the country. Our assumption was for a 10% drop from 317 (3/6/2020) over the next 30 days, but the pace was faster with a total of 280 hired (no guarantee they are all operational) in under 2 weeks. The view was we would get a full 20% drop by end of April, but we are pulling that forward and assuming 253 or so by the first week of April. The Permian will remain a key driver to the decline, and will quickly hit 100 active spreads now that even the majors are reducing CAPEX and adjust spending. Completions will slow significantly and come to a near standstill as WTI Cushing prices are on their way to $15 (already sub $20 in the spot market), and the flood of naphtha in the market coming from Europe will keep a lid on condensate exports. Demand is already terrible in the region as refiners/ petchem slow utilization rates to account for the shuttering of global economies and end users. Realized prices across the U.S. complex are already below $20 with condensate approaching $0 as NGLs/Nat gas are already pushing against the negative range once you factor in shipping costs.

The collapse in pricing won’t be abating anytime soon as spot prices continue to push lower, and force shut-ins across the board. WTI Cushing spot prices are approaching the lows hit during ’98-’99 with little to protect it from taking out the bottom. WTI Midland sits at about $19.29 (as seen in the below list), which will keep DUCs from getting completed and cause a much bigger production drop as E&Ps let decline curves reduce total volume. U.S. exports fell last week to 3.85M a day, and will continue to shift lower as U.S. crude is priced out of the market or is forced to price at steeper discounts. This will shift more oil into Cushing for storage, while refiners reduce more runs across the board.

WTI Cushing Spot Pricing Showing Major Pressure

Crude Spot Pricing Throughout the Americas

Imports slowed last week, but will quickly accelerate as we start to receive shipments already in route from the Middle East. The crude coming will displace U.S. production further as more is shifted into tanks, which will push E&Ps to opt to “store it in the ground” by not completing instead of pulling it out and realizing a terrible price. Cash preservation is paramount, and the acceleration will push frac spreads down to 250 in short order. Implied demand for products is already showing the shift in total demand with a 2.078M barrels a day drop driven by gasoline- which will accelerate as 3/20 doesn’t even capture the lock down in several states/ new announcements of refinery run cuts/ reduction in Continental product pipeline.

U.S. Implied Demand Across All Refined Products

The Permian is a good place to start for how much lower can activity go, and the proppant tells the story on how much completion activity is slowing and will remain at depressed levels. The proppant levels are now below 2014:

Permian Proppant Loadings Seasonally Adjusted Below 2014 Levels

The spread activity will quickly reach 100, and with the pressure in the market with Russia, Nigerian, Angola, Iraq, and now Saudi cargoes getting canceled- the volumes will be pushed back into the U.S.

Storage and Economic Stimulus Will Fail to Bridge the Gap

The issue shifts to onshore storage and it isn’t very comforting as we see gasoline storage rising globally, and we had U.S. refiners shifting to summer blends in Feb as the demand was waning already. The crude storage in the world can fill up quickly at the type of oversupply levels, and the U.S. has seen a rise vs last year bit still has room throughout our tank system. The oversupplies is shifting around the world as Europe sends to Asia, and demand now goes through a floor with China still well off normal pace and India entering their own lockdown. The below is working storage across products that will be updated at the end of this month. Tank tops aren’t an issue yet, but we will quickly start talking about it as demand falls and production in the U.S. is slow to roll off even as refinery runs accelerate to the downside. Continental refined product pipeline is reducing flow by 20%, which will push more product into storage.

The U.S. has passed a stimulus bill that will deliver $2T in immediate aid with another $6-$7T coming from the Federal Reserve in terms of Repo/ repurchasing/ Quantitative Easing. The U.S. currently has about $25.3 Trillion in debt, and the budget deficit coming into the year was already $1.2T that assumed normal tax revenue generation and was calculated well before the COVID-19 impacts. This means the budget deficit has already widened, and we will now be adding the total amount to be raised by $2T. So before factoring in the loss in tax revenue, the U.S. will have to raise $3.2T in a market where every country is currently looking to borrow with no one looking to lend. The quick response will be- well the central banks will buy it and the can will get kicked. The problem is the dollar strength in the market as the velocity of money has come to a stand still, and the magnitude of the stimulus rises to offset the law of diminishing returns as low rates and QE policy globally has inflated bubbles to absurd levels.

Total FED Balance Sheet, Which Will Hit About $7T by Mid-April

Massive Repurchases from the Fed Reach an All-Time Record- And They Won’t be Stopping

The fact the dollar remains strong is due to several factors with dollars printed within the U.S. economy doesn’t leave the country and yet not cycling through the system, while the Fed opens up swap operations with international central banks to provide dollar liquidity. As the global economy halts to a standstill, companies and countries that issued dollar denominated debt can’t take in USD from trade operations and are forced to sell from foreign reserves to meet debt costs. As the dollar strength remains and countries/companies struggle under the weight of debt expense, default risk will widen just as in the Asian Currency Crisis when countries dropped the Dollar Peg. The debt was issued back when the value of the dollar was much lower, but as the global market sputters and USD remains strong- the debt becomes onerous and at risk of default. As the debt comes due and the entity looks to “roll” the bond and issue new debt- they will find a market that no longer will either a) even entertain a new offering b) demand a much higher interest rate already stressing a tight balance sheet. If defaults occur, companies/countries will push the dollars they have preserved back into the market as they won’t have to sit on the cash to fill the debt payments unleashing a wave of new currency. The new USD will create a tidal wave effect by sending velocity of money and paper into the market cratering the dollar and spiking inflation.

Dollar Denominate Debt Abroad (Non-Bank)

Breakout of Some Emerging Market Holders of USD Denominated Debt

This is all going to play out in months and not days, as the dollar pushes higher even as the Fed attempts to push it lower. The problem is- The ECB/ BoJ/ BOE (name your CB) is attempting to create easing policies and supporting stimulus. There have already been several failed Sovereign auctions and Germany is trying to avoid a bigger one with Italy/ France with now Italy floating the idea of “joint issuance” to maintain a safe haven. The problem is- when everyone eases- no one is easing. The below chart helps highlight when each central bank sits in the cycle of total asset purchases vs GDP. The BOJ helps highlight the failed policies that have done little to spur economic growth as monetary policy hinders investments that provide real returns. So the investment in R&D/ new factories/ general business growth comes to a stop, and central banks have to expand the purchasing program to keep up the semblance of control and growth. We are running out of buyers of last resort, and as all sovereign debt converges to 0% or below- the merry-go-round starts to come off its wheels.

Global Economic Data Points Paint a Frightening Picture

Global economic pressure has been experienced throughout the world as reflected in PMIs/ GDP/ Exports-Imports and other key leading indicators.

The employment situation globally is deteriorating quickly with little to right the ship over the next several months. Hotels, airlines, restaurants, bars, doctor offices, gig-economy employees, and many others have laid off or furloughed employees in order to adjust for the large drop-in activity. “Hyatt Hotels Corp. will furlough or significantly reduce the schedules of two-thirds of its U.S. corporate employees as the company cuts costs with the coronavirus outbreak decimating hotel revenue.” “Marriott International Inc. has said it will furlough roughly two-thirds of its corporate employees, and ask those who remain to take pay cuts. Furloughed employees will receive 20% of their usual pay to help cover health care and other costs, a spokeswoman said.” Even as things slowly normalize the economy will take time to come back, and the cost of sitting at home/ not working/ worrying about paychecks will keep people from spending. Many of these resorts/hotels are being shut down and it will be quarters before they re-open units. The next question falls too- what about Air BNB holders that have multiple mortgages on homes they can’t rent? The level of fear in the system is rising as people will focus on disinfecting assets and limiting travel due to fear as well as limited disposable income. The U.S. already sits at record consumer debt levels with delinquency well over the recent record in ’08-’09 in credit cards and auto loans:

The pressure in the market isn’t limited to just the COVID-19 impacted nations but also the nations supplying crude and other commodity products. The questioned has been asked: Will Iran strike KSA again? Will Russia or KSA attack each other’s oil infrastructure? When do the people rise up because their government subsidies stop showing up? This all sounds great in a vacuum, but war/ attacks/ uprisings all cost money and need to have some form of financing. The flow of capital has dried up as Iran battles COVID-19 at home, and the populace anger rises further which I didn’t believe to be possible. Even the Iranian Regime has recognized they need to preserve capital to tackle to mounting problems at home. It isn’t because if the “people” live or die, but rather that a large part of their aging extremists/ parliament are infected with the disease so even on a self-serving level they need to cut back on proxy financing. In Iraq, their proxies still attempt to show force with rocket attacks, but as equipment and money dry up it will be hard to maintain the offensive. Russia and KSA remain more friend vs foe at this point and would never risk an outright attack- and they have had agreements fall apart twice before this one- so we are also just seeing history repeat itself.

The loss of social subsidizes can be tolerated for a short period of time, but the fact they have been cut for years now will keep people on edge. But if they rise up, what do they get? The whole market is essentially shuttered with little to no benefit by taking out the ruling party. The only thing it would do is waste money and potential harm vital infrastructure that would be costly to fix at this point in time. Typically, the uprisings start once thing settle out- but everyone still lives in fear of COVID-19 outbreaks so rioting/ attacks will be limited. We can just hit pause on some of the social uprising chattered.

A bigger problem is the continued shutdown of the global supply chain (more on it below), but now we are having countries starting to withhold food exports. The rise of food protectionism is rising with Vietnam (Rice), Russia/Serbia (Grain/ food oils), and Kazakhstan (flour and vegetables) are being held at the border in the name of domestic food security. The disruption will ripple through the economy as countries relying on these food stuffs struggle to replace them and end up paying premiums since freight and container costs have exploded (more on that below). The commentary remains these are just the first countries to come public with the information but as force majeures rise and governments fear about ensuring food is available- stoppage of global food trade will increase. The market is failing to truly appreciate the global supply chain impacts.” The crisis has forced many governments to reevaluate their domestic food stockpiles. India says it will have enough grain stockpiles to feed its poor for at least a year-and-a-half as reserves. China, the world’s biggest producer and consumer of rice, has revamped its pricing policy for the staple, and pledged to buy a record amount from this year’s harvest.” “As UN World Food Programme Chief Economist Arif Husain put it in a recent article online, “the economic consequences of this disease could end up hurting more people than the disease itself.” “Given the problem that we are facing now, it’s not the moment to put these types of policies into place,” said Maximo Torero, chief economist at the UN’s Food and Agriculture Organization. “On the contrary, it’s the moment to cooperate and coordinate.”

Oil Demand Falling as 2.6B face lockdowns

The oil markets are facing an issue on both supply and demand, which creates pressure on all fronts pushing WTI down to $15 over the next several weeks and Brent to sub-$20. The spread will hold about $4, but start to widen as more floating crude hits the Gulf of Mexico (GoM). A wave of crude from Saudi Arabia (about 10M barrels) will start appearing off the coast of the U.S., which will either displace U.S. crude and push it into storage or will be put offloaded directly into a tank. Either way- storage levels are going to rise exponentially as pressure mounts across the global market. Russia, Iraq, Nigeria, and Angola have experienced cancellations across March and April, which compounds the problems at their coastal/storage assets. Some producers have started to reduce May volumes while slashing OSP pricing in April to help keep exports moving and production steady so things can be slowly ramped down in May. The problem many countries face- it doesn’t matter what you cut your production down too because no one is buying it anyway. The supply/demand dynamics are at work with current demand falling quickly, and more demand coming out of the market daily. India is the newest country to enter into a mandated country wide shut down. Effective 12AM 3/25/2019- India will have a full lockdown for 21 days. Demand has fallen globally by about 30M barrels a day, and reach a peak of 50M barrels a day as the lockdowns remains in-place while slowly spreading around the world. Just picking the biggest demand centers helps highlight how quickly demand can drain away overnight:

Oil Demand Impacts Across Top Consumers

China is a perfect example of peak lockdown with about 760M people in some form of quarantine saw their crude imports fall from between 4-4.5M, so about 9.5-10M barrels was still flowing into China. To get a full idea of refinery shutdowns, from end of Dec to end of Feb Chinese implied stocks rose 2.31 m barrels a day according to Reuters. This means the actual refinery utilization was MUCH lower on a demand level and actual runs were 7.2 to 7.7m barrels. China’s Jan-Feb gasoline exports also spiked by 32%, which equates to 2.72M tonnes, diesel exports up 3.5% to 3.47M tonnes, and jet kerosene up 21.1% to 2.93M tonnes. The large increase in exports was driven by managing storage tanks to keep refiners operational at reduced rates during the lockdown. Demand has yet to normalize as the country slowly lifts physical barriers throughout their roadways and ports start to mobilize.

The speed has been hindered by employees slowly trickling in as quarantines and lockdowns are lifted nationwide. Even as the country starts to normalize, their main customers are facing a shutdown that is spanning the globe hindering their own economic restart. In order to protect from additional imported cases, ports are quarantining ships and containers limiting the amount of cargo containers available to move around the world. “The availability of cargo containers at Hamburg, Rotterdam and Antwerp in Europe and Long Beach and Los Angeles in the U.S. are at the lowest levels recorded, according to a Bloomberg report.” Due to the coronavirus, many problems and delays exist throughout supply chains, and even when the “all-clear” is given it will take weeks to get everything fully operational. The world economy has shifted to “at-time” deliveries, which is great for low inventory levels and cost, but in these circumstances- extensive delays will remain in the system as all the necessary components are moved back into place. China has been facing issues with shortages of labor, capital, and raw materials- which limits the speed of recovery.

Here are our estimates as of March 24:

  • The Trivium National Business Activity Index indicates that China’s economy is operating at 78.1% of typical output. That’s up from 73.6% on March 20.
  • The Trivium National Large Enterprise Activity Index indicates that China’s large enterprises are operating at 78.0% of typical output. That’s up from 75.0% on March 20.
  • The Trivium National SME Activity Index indicates that China’s small businesses are operating at 78.1% of typical output. That’s up from 72.7% on March 20.

While these data points are promising, normal output is still on hold as demand struggles with key trading partners. The other caveat is local demand- due to the uncertainty of jobs and lay-offs still persistent people are hesitant to go out spending until there is more comfort about the ability for work. “‘Only when employment is ensured could we have more consumption,’ said Xu Hongcai, deputy director of the Economic Policy Commission at the China Association of Policy Science.”

The storage levels now sit at all time-highs across the complex with run rates slowly ramping. The problem with any ramp is… who are you going to sell the product too? The domestic consumption still remains well below seasonal norms with the rest of the world experiencing decimated demand. The fact large parts of their storage capacity is being utilized limits the amount of speculative oil the Teapots and State Owned facilities can purchase. The options open up for floating storage, but the rise in VLCC rates has crimped some of the economics- but can still work for the right grade.

Teapot Storage Levels in China of Oil

Refinery Run Rates of State-Owned Enterprises by Region

Refinery Run Rates of Independent Refiners (Teapots) in Shandong

A key gage of growing product oversupply can be seen in Singapore. The rising tide of products will start to accelerate as India enters into its 21-day nationwide lockdown. Indian ports have started to declare Force Majeure, which will restrict the flow of products throughout the world.

Total Singapore Storage Levels of All Refined Products- on Pace to Take Out All Time Highs

The below chart highlights the global nature of the problem with Singapore complex refining margins below showing the scope of the margin pressure. This is something I have been highlighting for some time, as the problems really came to light in Sept of 2019, and have only gotten and stayed worse for differing reasons. The glut in products has been happening for some time as China was pushing out refined products as the market slowed, and now even with Chinese assets running at reduced rates there is no benefit to Singapore or other global assets.

Singapore Complex Refinery Margins Over the Last 10 Years

India Starts Down the Lockdown Road

India typically consumes about 5M barrels a day, but with the everyone being asked to stay in their homes for the full 21 days- the demand for crude will come to a screeching halt. “Top refiner Indian Oil Corp (IOC.NS) and its subsidiary Chennai Petroleum (CHPC.NS) has cut refinery runs by an average of 15% to 20%, sources familiar with the matter said.” Some refiners may continue to operate at severely depressed levels, but just using China as an example (where about 760M out of 1.4B) total crude demand fell by 4M barrels and 7M barrels if you back out crude purchased for storage. In India, all 1.3B are being asked to remain indoors- so to say India will see oil demand cut in half is a fair assessment- but will likely be much worse. India exports of gasoline in Jan were already at record lows while diesel saw a small increase, but the product will come off the water as refiners reduce total throughput. “Refiner Bharat Petroleum Corp. has suspended purchases of crude oil from the spot market for May delivery, said R. Ramachandran, the company’s refineries director. Another processor, Hindustan Petroleum Corp., may also consider similar curbs, according to its chairman Mukesh Kumar Surana. The processors are working to assess the impact of widespread travel restrictions and the movement of people in one of the world’s most populous countries. – according to Bloomberg”

Indian Exports of Diesel

Indian Exports of Gasoline

European Lockdowns Ramp with UK Joining the Fray

Europe is the next stop that consumes a total of about 15M barrels a day (includes UK which is about 1.5M). The pain can already be seen with the flow of gasoline components: “The extent of the demand collapse in Europe as people stop traveling has pushed the region’s prices to a five-year low of $40 a ton under Asian prices, making the arbitrage trade viable. That’s even as benchmark Asian pricesplunged by around half this month amid shrinking demand for everything from car interiors to home appliances.

“Weak gasoline demand is prompting Europe to send excess naphtha over to Asia and it’s bearish for the naphtha market, especially when supplies from the Middle East are increasing,” said Armaan Ashraf, an analyst at industry consultant FGE.” “An uptick in naphtha flows into Asia will only add to a glut of refined oil products in the region, particularly for aviation fuel as more non-essential travel plans are cancelled and flights are grounded. In Singapore, the region’s oil storage and trading hub, middle distillate inventories — which comprises of jet fuel, kerosene and gasoil — have expanded by 28% since early January, government data show.”

Europe Naphtha;s Discount to Asian Prices is Widest in 10 Years

  • The UK was the latest to enter a lockdown for 15 days starting March 23rd that will also require people to stay in their homes. Restrictions will remain in place until April 13th and will be reassessed.
  • Italy entered locked on March 8th and set to expire on April 3rd (could be extended to July 31st) and has gradually increased the severity of the rules with the most recent banning all movement within the country. The Italian deaths had fallen for two days in a row, but had a big spike tonight. A small reprieve is the pace of new cases is slowing, while still rising but at least there are some signs the shutdown is impactful.

The below chart also highlights where the rest of Europe and the US sit in relation to Italy:

  • Spain began its lockdown on March 14th with a full stop on all travel within the country. The government is using drones to help enforce the shutdown and keep people inside. The shutdown was extended to April 11th with another week or so to go before the government reassess the situation.
  • France announced a nationwide lockdown on March 17th which expires on April 1st but will be extended for another week.
  • Germany issued social distancing measures on March 22nd that are in place until April 6th. The country hasn’t officially announced a lockdown, but instead opted for banning public meetings/ closing restaurants/ and some forced non-essential shop closures.
  • Austria started their confinement on March 16 expiring on April 13th
  • Belgium- March 18th to April 5th but likely to be extended
  • Portugal- declared state of emergency that will remain in place until April 2nd

Many of these countries have closed borders with each other in order to enforce the limitations on travel, and has brought economies to a standstill. The below picture really drives home the speed in which activity has dropped off and how China is still far from its original level of operations.

The extensive loss of manufacturing/ shipping/ consumer consumption has seen Europe consumption drop in half over the last few days now with the UK joining the ranks.

Global Refined Product Demand Show The Problems Throughout the Whole Hydrocarbon Chain

Another way to assess the oil demand loss is by looking at total consumption of refined products. About 61% of total oil demand is in transportation with about 8M barrels a day going into jet fuel. On a global level, about 50 airlines are completely shuttered/ 10- 90% canceled with another 35 from 30%- 85% operational. Most of the flights have been restricted to purely domestic travel, but it is a safe assumption that jet fuel demand is down 80% (6.4M barrels a day). Due to the precipitous drop, storage is becoming a growing concern: “Only about 20% of land-based storage for the product remains — about 50 million barrels — while airlines cut flights, according to Vienna-based consultant JBC Energy GmbH. A collapse in air travel due to the coronavirus pandemic has brought with it a plunge in fuel demand and the threat of a shortage of places to keep unwanted supplies.”[1]

Flights Around the World and Locations of Planes

With about 60M barrels a day going into transport, 8M to aviation, 40M to road fuel, Marine Shipping 6.1M, 1M a day for rail, and about 5.4M for commercial/agriculture the breakdown can vary in specific countries. But as countries go into full shutdown and supply chains and travel are hindered, the demand drops off quickly. This leads directly into the U.S. predicament and large consumer of oil and refined products. “U.S. AIRLINE PASSENGER COUNTS DOWN 86% FROM LAST YEAR ON VIRUS- according to Bloomberg.”

So far, the U.S. has not rolled out a nationwide lockdown, but instead opted to have states address the local concerns with stay at home orders issued in: California, Connecticut, Delaware, Hawaii, Illinois, Indiana, Kentucky, Louisiana, Massachusetts, Michigan, New Mexico, New York, Oregon, Washington, West Virginia, and Wisconsin. There are also some specific cities outside of the listed states following similar orders. Many of these orders were issued between March 19th and 24th with some of them extending for up to 8 weeks (California currently the longest at 8 weeks). This is a huge focus as many of these areas make up a large piece of refined product demand. In California, refiners have initiated economic run cuts from 20%-40%, while Continental Product Pipeline that moves 2M barrels a day of refined product from the Gulf Coast to PADD 1 is cutting flow by 20%. Many facilities have no stopped or delayed turnarounds and are rolling out run cuts. Implied demand will drop off quickly from the current levels of 21.47M barrels a day as jet fuel/ gasoline/ diesel are directly impacted by the shutdowns. Refinery run cuts will accelerate and send utilization rates down further as we are at a seasonally adjusted low:

U.S. Refinery Run Rates Rose- But Doesn’t Capture Recent Slow Downs Announced

The U.S. is far lagging behind Europe in the spread, as we quickly close the gap with Europe on our confirmed cases and death rate. The below chart helps show where the U.S. sits in comparison to countries throughout the world. The key factor for the U.S. is each state is at different levels of the spectrum with places like New York and California further along the bell curve as other areas in the U.S. catch up.

The below chart shows miles driven in March 2019 in order to keep things seasonally consistent. The West and NorthEast sector are seeing a large drop in miles driven which is being reflected with the current price of gasoline.

Miles Driven (in Billions) for March 2019

The gasoline crack is currently negative with NY 91 RBOB trading at 20 year (as far back as I can find) lows with the WTI Cushing/ US Gulf Coast Crack Spread back to levels not seen since 1995 and close to lows seen in ’08 and ’14. When we do the same seasonal exercise looking at crack spreads versus Brent 321- we are at the lowest level I can find on record (second chart below). “P66 SEES 20% U.S. DEMAND DESTRUCTION PREDOMINANTLY FOR GASOLINE- according to Bloomberg.”

Crack Spreads In the Gulf Coast (3-2-1) and Showing the Pressure on Margin

OPEC+ Politics and Flow- The Reality Tells a Different Story Versus Consensus

The significant drop in pricing won’t be reversing anytime soon, but will keep run cuts coming as refiners attempt to protect margin and focus on storage. Coastal refiners have been the ability to take some advantaged cargoes, but with the adjustments to the KSA rebate program (which just means as shipping rates spiked- KSA adjusted the rebate they gave buyers) North America buyers have renominated for less supply in April. “Freight rebates were offered to Saudi customers in the west but were slashed recently after freight rates skyrocketed- according to Bloomberg.” There is still an armada of boats heading to the U.S. carrying 10M barrels of KSA crude, but there was an adjustment lower of what NAM is willing to buy at the moment. The U.S. isn’t the only one looking to adjust crude loadings with China also looking to purchase less crude in April. “Unipec, the trading arm of state-owned Sinopec, is looking to avoid taking delivery of at least four supertankers of crude for April loading, according to people with knowledge of the company’s plans. Each very-large crude carrier has the capacity for two million barrels of oil. It may try to get out of as many as eight VLCCs worth of oil, according to one of the people.- according to Bloomberg.” The spike in freight rates have pushed people to adjust deliveries even though the KSA OSPs were cut considerably.

The move is also to address the quick fill up of Chinese storage: “China’s onshore oil inventories have risen to 796m barrels; that’s in line with a significant increase in crude imports month-to-date at 9.77m b/d, up 570k b/d from February, co. says in note to clients Wednesday.” Even though Russia and Saudi have been focused on “increasing” volume they have failed to do so as cancelations of shipments increase in April.

Crude exports from Saudia Arabia and Russian haven’t seen any “meaningful change” yet after the OPEC+ agreement collapsed earlier this month, says Alex Booth, head of market analysis with industry data provider Kpler.

  • Loadings from Saudi Arabia averaged 7.692m b/d during March 7-18, vs 7.38m b/d for January-February, he says by phone from London
    • For same period, Russia’s loadings ~4.995m b/d, vs5.025m b/d in January-February

The problem with “wanting” to increase the export of oil (supply) is does anyone want to purchase the crude at any price (demand). The cancelations that have rolled through Russia, Iraq, Nigeria, and Angola suggest there is a limit for what countries/companies can tolerate as storage fills up and refiners roll out growing run cuts. Prices also fluctuate outside of the OSP, and even thought KSA was selling for prices ranging at $5-$7 discounts doesn’t mean it was crossing at those levels but rather a $1-$2 higher. Russia has struggled to sell Urals within Europe, so even though the Ural price “looked” strong the actual flow of product had to price at a steep discount to get product into the market.

Nigeria: April still remains well off of normal selling with over 50% of cargoes still available. March cargoes have slipped into April on deferrals, with still over half of April left to sell. This has resulted in a reduction in May volumes, while also cutting OSPs (official selling prices) for April cargoes in order to get volume to move. Nigeria has set pricing in April at the below discounts:

  • Nigeria slashes Qua Iboe OSP to -$3.10/bbl
    • First time at a discount since Jan. 2016
  • Bonny Light OSP at -$3.29/bbl

The adjustment in May is for lower Forcados (33 API) and Bonny Light crude (36.5 API- goldilocks crude), which is some of their top selling grades due to the ease it can be refined across various asset configuration. The fact Nigeria is selling at a discount that steep points to a desire to maintain market share, but also ensure product doesn’t get trapped in coastal storage tanks. The country has been trying to maintain flow of 1.8 to 2.1M barrels a day- especially as Egina ramped up. Nigeria responded to the KSA cuts, and is trying to compete and find buyers at really any price. They are currently finding that May/April is getting ugly for flow, while cancelations are coming across for April. Even though Nigeria has slated 1.97M for sale in the new offering- doesn’t mean they will even be able to sell half the allotment in the current backdrop.

Nigerian Previous and Planned Exports

Russia has focused on ramping up ESPO, which is currently on the docket for April, local energy companies are saying they will struggle to ramp oil production in this price environment. The comment shouldn’t come as a surprise as crude sales have been tough for the last 2 -3 quarters. The below chart highlights the oil exports from Russia, which have remained steady throughout much of the “OPEC+ Agreement.”

Russian Previous and Planned Exports

Even if Russia increased production it would only shift back to the highs from 2019, so there is really not much “risk” in Russia saying they have decided not to increase the cuts with Saudi Arabia and the rest of OPEC. The market is telling oil producing nations there is no market for your crude, especially as storage fills up and refiners’ ramp down. This just means- Russia might WANT to sell 4M barrels a day but doesn’t mean they will find buyers at any price.

Politics Drive OPEC Policy

It is important to address the vast amount of political back and forth between Russia and Saudi Arabia and the rest of the Middle East. Russia and Saudi are still more friend than foe at this point in time as Russia was already evaluating ways to exit the agreement, and Saudi Arabia said if countries kept cheating, they would force everyone to pay. Nigeria, Iraq, and Russia were constantly over their “allotment”, and without Russia willing to take a bigger portion of the proposed cut earlier this month- it no longer made sense for Saudi to sacrifice market share. It is important to appreciate what they did first- which was “shock” the market with an OSP cut rather than a straight spike in production. The reason for this was to test the markets as demand has been coming off hard since end of January. Why increase production pulling harder from source rock when KSA has about 160M barrels of oil in storage? They are aware that the demand for crude has fallen drastically, so they can “show” the world they are producing 12.3M barrels a day of crude, but really maintain production and if anyone calls on them for the difference between production and loadings which have been constant at Loadings from Saudi Arabia averaged 7.692m b/d during March 7-18, vs 7.38m b/d for January-February, according to Kpler. Saudi can talk a strong game but have not been called to deliver.

Libya is weighing the options of re-opening crude sales as the checks slow down from the GCC (Gulf Cooperation Council- IE Saudi Arabia and the UAE), which was helping to fund Haftar and the LNA (Libyan National Army). The LNA has blockaded about 80% of the country’s output, which equates to about 1.1M barrels a day. The LNA is working with the NOC East (main rival to the Tripoli based NOC), but will need support from key allies including Egypt, Russia, KSA, and the UAE to really get this in motion. The UN and other countries can deem the oil “stolen” and embargo the oil under that umbrella leaving it in legal embargo causing significant disruptions. Countries/companies would be taking a risk purchasing the oil in case it fell under sanctions. “Sources said Haftar’s Paris discussions focused on a mechanism to bypass the Tripoli-based Central Bank of Libya (CBL) in managing oil and gas revenues.” “NOC said it has informed the UN and the GNA and numerous other governments of this cargo, which is in “clear violation to UN resolutions and Libyan laws.” The state-owned company has regularly warned its oil buyers and shipowners to avoid “illegal” cargoes from the east.” The uncerntainty surrounding- will the EU or US sanction the shipments will keep this in the planning stage for now, but additional crude supplies hitting the market (especially 1M barrels a day) would not do this market any favors.[2]

OPEC+ nations were also seeing the same pressure across refined products and run cuts accelerating around the world. The easiest way to help promote higher refiner utilization rates is by giving a bigger discount to incentivize customers to run your blends as the margin will be higher. Brent (floating barrels) set the price for gasoline in the U.S., and is how many governments look to set their fixed petrol pricing. The recession began in Q4’19, and the emergence of COVID-19 is like dropping jet fuel onto a forest fire. The worst thing OPEC+ nations could have done was to push prices to elevated levels because they would have killed off demand and choked many sputtering economies- especially in emerging markets. If we want to really try to start the global economy, the best way to do it is with cheap refined products- gasoline/ diesel/ jet fuel/ MGO (Marine Gas Oil) in order to reduce costs and promote transportation. It provides a little extra bump to spur demand and get things jump started as everything has ground to a halt. The balancing act is not “priming the engine” to much and flooding the system with so much cheap oil that refiners produce as much product as possible for storage. The current dynamics around the world DO NOT support that setup as many countries are in lock-down and have reduced run rates to all-time lows. It would be effective for OPEC (and maybe Russia- but I think they are permanently out) to gradually support prices as the market can handle rising prices.

It is also important to understand that U.S. shale producers have been producing oil at levels that is far from economic by increasing leverage and failing to adjust break-evens to a sustainable price. U.S. crude is at the lower end of the quality spectrum- it may be light and sweet- but has other composition issues. The U.S. also produces oil well above what can be consumed locally, so the remainder has to either get exported or put into storage. Russia has been competing against U.S. shale in Europe and OPEC nations have seen more flow from the U.S. entering India, South Korea, China (now that the deal is signed), and other key markets. The current backdrop of grossly overleveraged balance sheets, a massive demand hit, investor frustration, and falling acreage valuations- it would be an opportune time to add on a supply push to make sure prices fell to unsustainable levels. OPEC+ nations can’t (or maybe don’t care too) drive all shale out of the market, because that would be very difficult to do and require a prolonged fight that would spell economic destruction for many of these countries. Instead, push some of them into bankruptcy, force take-unders, and cause drop in U.S. production. Due to the high decline rates of shale, E&P companies have to drill constantly to stay ahead of the falling production in order to achieve growth or at least keep production flat. So if you factor in a stoppage of drilling and decline curves, it would cost U.S. E&Ps billions to get back to current production let alone to a growth profile. Given the state of the global economy and leverage of E&P balance sheets, OPEC+ nations can drive down U.S. production and assume the lost production won’t appear for several years at this rate. In the meantime, the 450 or so E&P companies consolidate to become 25 and become “optimal” producers at a normalized production level well below 13M barrels a day.


1 https://finance.yahoo.com/news/glut-jet-fuel-brink-overwhelming-154516964.html

2 https://www.spglobal.com/platts/en/market-insights/podcasts/crude/032320-price-collapse-fragile-us-shale

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