Oil prices see historic lows

Oil prices see historic lows

Given the current situation, with far less cars on the road and planes in the air, it was to be expected that demand for oil would drastically decrease. However, a number of other factors have also contributed to the dramatic price drop:

The Organisation of Petroleum Exporting Countries (OPEC), tried to impose an agreement between themselves and other non-opec nations, back in March. The aim was to reduce the number or barrels being created in light of the situation the world was in. This agreement was rejected by Russia, due to what seems to be an inability to arrange how this reduction would be spread across the oil producers in Russia, and their desire to see the true impact of the coronavirus. Prices tumbled shortly afterwards, partially fueled by Saudi Arabia proceeding to increasing oil availability and flooding the market. Naturally, this started the beginning of an oil price war between leading oil producing countries.

At current prices many countries will not be able to break even, and it could be argued that the situation has been engineered by the biggest players to benefit them in the longer term.

Which countries need the highest prices?

In early April, the consumption of petrol in the US fell to its lowest level in 30 years. Demand for gasoline has declined by 50%, and jet fuel consumption decreased by 70%. When this happens oil needs be stored efficiently, because it is not like a tap that you can simply turn off, and storage facilities have limits. Dedicated silos, tankers and pipelines are available for storage but these all come with a maintenance price tag. Usually this is accounted for by sales covering operating costs. However, oil is currently piling up creating large liabilities.

By mid-April we saw 23 oil producing countries cutting production by 10 million barrels a day in order to support prices, this did not include the US.  Due to the oversupply we saw a historic event where oil futures prices turned negative, as shown by the below chart.

This was caused in part by the fact that if a trader holds an oil future at maturity, they are required to take delivery of the oil. Most traders have no storage capability and would usually have sold the oil on, in this case they were actually having to pay out in order to offload the contracts.

Correlation between Energy, Oil and the Market

There is not much correlation between the prices of oil and other energy types. Although, there are a lot of factories being closed and we have seen a reduction in energy demand too. These reductions are somewhat being compensated for by the number of people finding themselves at home, having to use more heating, cooking more and using more electricity as a whole.

As we can see from the historical chart below, it is difficult to extrapolate the impact of oil on the economy even though it is the worlds most traded commodity. There are times when correlation is positive and other times when it is negative. This is not to say that one does not affect the other but it is worth noting that just because the oil price is suppressed, it does not mean the global market always follows suit.

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Juan Laz

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