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Oil, oil everywhere – but not a place to put it

The global slowdown triggered by the coronavirus has ground many industries and sectors to a halt, so it is unsurprising that the demand for oil has been dropping sharply.

The unprecedented slowdown, however, saw the price of West Texas Intermediate (WTI) fall into negative territory for the first time on 20 April.

A price drop like this has never happened before in the oil sector, although it has been seen in regional energy markets for both gas and power, according to Goldman Sachs.

Stymied by storage

While market conditions have been a significant headwind, the real problem stems from a lack of places to store oil, according to Tal Lomnitzer, senior investment manager on the global natural resources team at Janus Henderson Investors.

The sharp sell-off of WTI saw prices hit a low of minus $39 (£32, €36) per barrel, “driven by dynamics going beyond demand and supply for oil and into the availability of oil storage capacity”.

“Excess supply of crude oil has been filling up the available storage at the main crude hub in Cushing, Oklahoma where this oil is traded.

“Storage is normally easily accessible.”

This limited capacity meant that “bids in the market for May oil deliveries dried up, allowing prices to plummet”, Lomnitzer added.

He described negative oil prices as “an anomaly”, evidenced by the price bouncing back and ending up at $10 per barrel.

Not worth it?

Matt Adams, portfolio manager at Franklin Equity Group, expects continued price volatility as storage in Cushing nears capacity.

But “it’s important to remember that energy markets are largely self-correcting; and the lower prices go, the faster wells are shut-in and drilling activity should decline”, he added.

“Ultimately, demand will need to outstrip supply for some period of time to bring down inventories and create a healthier market.

“We believe at these price levels that all oil production is uneconomic, even from the lowest cost producers.”

Takes two to contango

But Joshua Mahony, senior market analyst at online derivatives trading platform IG, believes that firms may continue to produce oil on the basis of the future price.

“The big question for many is quite why energy producers would create the product if prices are so low.

“The contango scenario we saw on Monday help explain that, with futures prices significantly higher than the spot.

“That highlights the expectations that the rock-bottom levels seen over the past months are going to be a short-term phenomenon rather than a permanent fixture.

“With oil prices expected to rise in the future, it makes sense for many producers to maintain output with the expectation that they will achieve higher prices down the line.”

Kirsten Hastings

Kirsten is international editor of Expert Investor and International Adviser. She joined Last Word Media in October 2015. Kirsten has a Masters in Financial Journalism from the...

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