Crude math: Why $10 oil could be worth less than nothing

April 20, 2020, 12:24 PM UTC

Oil prices are still sinking.

Despite a sweeping plan by OPEC+ to cut production, the hit to oil demand from global COVID-19 lockdowns—and dwindling storage—is sending crude prices to levels not seen for at least 20 years.

On Monday morning in Europe, WTI crude, which is weighted toward U.S. crude, was down nearly 38% to $11.30/barrel—the lowest level in more than two decades, surpassing the 18-year low on Friday. The Brent crude contract, which traditionally reflects the North Sea, was down 6% on the day, at $26.36/barrel.

“The real problem of the global supply-demand imbalance has started to really manifest itself in prices,” said Bjørnar Tonhaugen, head of oil markets at consultancy Rystad Energy, in a morning comment. “As production continues relatively unscathed, storages are filling up by the day. The world is using less and less oil, and producers now feel how this translates in prices.”

Until even more commitments to production cuts from oil-producing countries arrive, prices still had further down to go, he predicted.

The current dip reflects just how weak global demand is for oil—and how little impact, ultimately, even the 9.7 million barrels/day plus of production cuts from OPEC+ are expected to do to bring prices back while widespread lockdowns are in force.

Last week, the International Energy Agency forecast global oil demand will decline by a record 9.3 million barrels/day in 2020, compared to last year—and that’s if demand starts to recover in the second half of the year. The demand drop in April was forecast to be 29 million b/d compared to 2019, with May seeing a drop of 26 million b/d.

The deep weakness of the WTI price is slightly misleading, because the current price is for the May contract—which is about to close, on Tuesday. In the days before one month closes, most of the trading moves onto the next contract: in this case, June.

Such a structure—with earlier months pricing lower than later months—is common in oil markets, unless there is a near-term supply shock that produces demand to buy oil immediately. That gap also tends to get wider in the days before a futures contract closes. On Monday, May was nearly $9/barrel weaker than June.

This month, however, that pattern is exacerbated because production cuts are not expected to even begin until May—which means little hope of the oil market finding more of a balance between supply and demand that month, given the sheer size of the oversupply. Meanwhile, storage space globally is becoming scarce, and Texas’ Cushing storage facility is filling up rapidly, with 55 million barrels of the total capacity of 76 million already being used, according to the U.S. Energy Information Administration.

That creates even less demand for oil in the near term—with Bloomberg reporting last week that sellers in Texas were offering some oil for as little as $2/barrel. That was raising the prospect that sellers may eventually even have to go negative—that is, pay others to take their oil, in order to free up storage space. To wit, analysts warn that storage space is becoming more valuable than the oil itself.

That scraping $0 price also reflects the fact that as weak as the futures contracts may be, demand in the near-term world of physical oil trading, where cargoes of crude must get bought and sold, is much weaker.

Globally, crude is selling for a “huge” discount to the futures contract, according to S&P Global Platts, with the gap between the physical dated Brent contract and the Brent futures contract—in effect, the gap between the real world and the futures market—widening to at least $12/barrel late last week.

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—IEA warns of “staggering” demand drop in global oil markets
—For boom-bust oil towns, coronavirus is a very different kind of crisis—Listen to Leadership Next, a Fortune podcast examining the evolving role of CEO
—WATCH: PSEG CEO on climate change action: “It should have been done yesterday”

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