Worst Case in Oil Industry

Oil prices turn negative as demand dries up

Oil producers are having to pay buyers to take oil off their hands because their storage facilities are full. Photograph: Sergei Ilnitsky/EPA

The price of US oil has turned negative for the first time in history.

That means oil producers are paying buyers to take the commodity off their hands over fears that storage capacity could run out in May.

Demand for oil has all but dried up as lockdowns across the world have kept people inside.

As a result, oil firms have resorted to renting tankers to store the surplus supply and that has forced the price of US oil into negative territory.

The price of a barrel of West Texas Intermediate (WTI), the benchmark for US oil, fell as low as minus $37.63 a barrel.

"This is off-the-charts wacky," said Stewart Glickman, an energy equity analyst at CFRA Research. "The demand shock was so massive that it's overwhelmed anything that people could have expected."

The severe drop on Monday was driven in part by a technicality of the global oil market. Oil is traded on its future price and May futures contracts are due to expire on Tuesday. Traders were keen to offload those holdings to avoid having to take delivery of the oil and incur storage costs.

June prices for WTI were also down, but trading at above $20 per barrel. Meanwhile, Brent Crude - the benchmark used by Europe and the rest of the world, which is already trading based on June contracts - was also weaker, down 8.9% at less than $26 a barrel.

Mr Glickman said the historic reversal in pricing was a reminder of the strains facing the oil market and warned that June prices could also fall, if lockdowns remain in place. "I'm really not optimistic about the prospects for oil companies or oil prices," he said.

OGUK, the business lobby for the UK's offshore oil and gas sector, said the negative price of US oil would affect firms operating in the North Sea.

"The dynamics of this US market are different from those directly driving UK produced Brent but we will not escape the impact," said OGUK boss Deirdre Michie.

"Ours is not just a trading market; every penny lost spells more uncertainty over jobs," she said.

The oil industry has been struggling with both tumbling demand and in-fighting among producers about reducing output.

Earlier this month, Opec members and its allies finally agreed a record deal to slash global output by about 10%. The deal was the largest cut in oil production ever to have been agreed.

But many analysts say the cuts were not big enough to make a difference.

"It hasn't taken long for the market to recognise that the Opec+ deal will not, in its present form, be enough to balance oil markets," said Stephen Innes, chief global market strategist at Axicorp.

The leading exporters - Opec and allies such as Russia - have already agreed to cut production by a record amount.

In the United States and elsewhere, oil-producing businesses have made commercial decisions to cut output. But still the world has more crude oil than it can use.

And it's not just about whether we can use it. It's also about whether we can store it until the lockdowns are eased enough to generate some additional demand for oil products.

Capacity is filling fast on land and at sea. As that process continues it's likely to bear down further on prices.

It will take a recovery in demand to really turn the market round and that will depend on how the health crisis unfolds.

There will be further supply cuts as private sector producers respond to the low prices, but it's hard to see that being on a sufficient scale to have a fundamental impact on the market.

For US drivers, the decline in oil prices - which have fallen by about two-thirds since the start of the year - has had an impact at the pumps, albeit not as dramatic as Monday's decline might suggest.

"The silver lining is, if you for various reason actually need to be on the roads, you're filling up for far less than you would have been even four months ago," Mr Glickman said. "The problem for most of us is even if you could fill up, where are you going to go?"

US President Donald Trump has said the government will buy oil for the country's national reserve. But concern continues to mount that storage facilities in the US will run out of capacity, with stockpiles at Cushing, the main delivery point in the US for oil, rising almost 50% since the start of March, according to ANZ Bank.

Mr Innes said: "It's a dump at all cost as no one, and I mean no one, wants delivery of oil with Cushing storage facilities filling by the minute."

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US oil prices turned negative for the first time in history on Monday amid the deepest fall in demand in 25 years. A flood of unwanted oil in the market caused the West Texas Intermediate (WTI), the benchmark price for US oil, to plummet to almost –$40 a barrel after the fastest plunge in history. That meant producers were paying buyers to take oil off their hands.

1. Why have US oil prices turned negative?

The price of oil has been steadily falling across global markets since coronavirus first broke out in China at the end of 2019. Since then, the shutdown of major economies and travel routes to curb the spread of the virus has wiped out oil demand as transport has ground to a halt. But oil producers have continued to pump crude from their wells, causing a catastrophic imbalance between oversupplied oil and the biggest slump in demand for 25 years.

2. What do ‘negative prices’ mean?

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In short: oil producers are paying buyers to take the barrels of oil off their hands because storage facilities are full to the brim. At the market’s lowest point on Monday, an oil company might have paid about $40 for every barrel of oil someone was willing to take. A buyer would need to factor in the cost of transporting oil from the well to a shipping port, or a storage facility, where it may need to be held for up to six months, at significant cost. They would also need to bet that oil prices will rise later this year to make a return on the “investment”. No oil company wants to “sell” their crude at a loss, so many producers are likely to shut their wells until the market recovers.

3. Why are oil prices in other countries still above zero?

The world’s oversupply of oil is particularly acute in the US, which produces around 10m barrels of oil every day, because oil storage tanks have filled up, leaving oil companies desperate to sell their surplus barrels. In other regions, including the UK, oil prices are still above zero in part because theyface lower transport costs and easier access to ports. Still, no oil market has remained unscathed. The international benchmark oil price, known as Brent crude, is still above $20 a barrel, but has fallen by two-thirds since January to 18-year lows.

4. What does this mean for petrol prices?

Petrol prices are likely to fall sharply this year due to the sudden collapse of oil prices and the long road to market recovery that probably lies ahead. But it is worth keeping in mind that the price paid at the pump is not a perfect reflection of the oil markets because petrol and diesel prices include government taxes and a profit margin for the seller. The negative oil prices seen in the US will be short-lived, so no one should expect to be paid for filling up their car.

5. Are prices likely to recover?

Yes, and quite quickly. The negative US oil price referred specifically to the price for crude delivered in May, the month in which oil demand is expected to be lowest and supplies are expected to be highest. From Tuesday, oil traders will begin trading barrels for delivery in June in earnest, and these are expected to fetch far higher prices. A meaningful recovery of oil market prices will depend on how quickly demand for transport fuels increases – a speedy end to lockdown would accelerate a market price recovery, but a slow emergence from the Covid-19 crisis could mean further financial pain for oil producers until 2021.

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