News & Politics

Despite Record Production Cuts, Cheap Oil Will Be With Us for a While

(Image by Laura Upshaw from Pixabay)

Donald Trump declared victory over the weekend as he helped negotiate a historic agreement between Russia and Saudi Arabia that slashes oil production by record amounts. “This will save hundreds of thousands of energy jobs in the United States,” Trump tweeted Sunday.

That much is true. With oil at $22/barrel and gas prices in much of the country below $1 a gallon, oil companies have been taking a beating on Wall Street. The industry has been laying off workers by the tens of thousands.

The revolution in fracking over the last decade has been a godsend. It has allowed America to become almost totally self-sufficient in oil and has vaulted the United States to #1 in fossil fuel production.

But at $22/barrel, it costs frackers more to take the oil out of the ground than they can sell it for. The oil war between Saudi Arabia and Russia has devastated the fracking industry and even with federal assistance, which may or may not be forthcoming, the industry is experiencing a radical shakeout.

But energy producers saw a light at the end of the tunnel with the production cuts agreed to. Are they too optimistic?

CNNBusiness:

The muted reaction on Wall Street reflects a realization that despite the historic nature of the OPEC+ cuts, they aren’t nearly deep enough to erase the epic supply glut facing the oil market.

“This will stabilize things a bit. It will slow the bloodletting,” said Matt Smith, director of commodity research at ClipperData. “But it’s absolutely not enough to rebalance the market.”

US oil prices finished 1% lower on Monday to $22.41 a barrel.That’s a far cry from the record 32% spike during the first week of April, when Trump first touted major OPEC production cuts.

The amazing thing is that it could have been worse for energy companies.

The central problem remains the collapse in the world’s thirst for oil. The coronavirus pandemic has grounded countless flights. Highways remain empty. Many factories are still dark.

Bank of America is now projecting that demand will plunge by an average of 9.2 million barrels per day in 2020,more than double the4.4 million drop initially projected.

There was so much excess oil that the world was running out of places to store it.

The good news is that the OPEC+ supply cuts lower the immediate risk of a disaster in the oil market. Demand was collapsing at such a staggering pace — and supply was increasing — that the world was rapidly running out of room to store oil. And reaching “tank tops,” as it’s called in the industry, could have sent oil plunging to single-digits or even negative territory in some places.

“This prevents the impending car crash that was happening in slow motion,” said Michael Tran, director of global energy strategy at RBC Capital Markets. “Dodging that iceberg is extremely constructive. But in the near-term, we continue to be plagued by the coronavirus.”

Analysts fear that the production cuts announced by OPEC+ are illusory — that historically, nations cheat to sell more oil under the table. And other nations not belonging to OPEC may or may not voluntarily cut their production. In short, the announced target of cutting more than 9 million barrels a day in world production probably isn’t achievable, making a collapse in prices inevitable.

That could mean big trouble for the world and U.S. economies as the coronavirus ravages the lives and livelihoods of people everywhere.