Oil industry faces a major adjustment with plenty of stored oil

Oil industry oversupply COVID-19 stored production cuts shale producers

On the face of it the OPEC+ agreement on production cuts might seem just the tonic to stabilise the oil industry.

After oil prices actually went negative for a time as storages filled up and consumption was slashed due to COVID-19 shutdowns, it looked for a while like the entire industry was in deep trouble.

That is still the case despite some healthier prices, although the decision by OPEC and its partners to extend production cuts they started in April is just one part of the problem.

Production cuts until at least July

While the latest cuts are set to remain until at least the end of July, oil storages around the world are still literally brimming full, so cutting production by 9.7 million barrels a day will only go so far to bringing the market back into balance.

That is only around 10% of global output which could easily be made up by returning storage facilities back to more normal levels, even if much of the US shale production remains unprofitable at current prices around the US$40 a barrel mark.

Countries can cheat on these agreements

There is also the perennial issue of OPEC countries cheating on their production agreements, which became obvious this time around with Iraq, Nigeria, Angola and Kazakhstan just some of the countries that have agreed to further cuts to make up for their over-production after the last meeting.

The oil cartel is always only as strong as its weakest link and there are plenty of those – particularly after Russia and Saudi Arabia are fresh out of fighting a price war.

Another issue is the ceasefire in Libya’s civil war, which has the potential to bring hundreds of thousands of extra barrels of oil back into the market every day – throwing another spanner in OPEC+’s plans to curb production and bring the market back into some sort of balance between supply and demand.

There is also the issue of low demand, with the recovery of the world economy from the COVID-19 pandemic proving to be very slow indeed.

Return waves of COVID-19 could play havoc

There is always the risk of second waves of the virus once again shutting down large swathes of the world economy so the recovery of demand might be much slower than producers expect.

Full oil storages on their own are not expected to be resolved until the middle of next year and possibly longer and while Chinese demand for oil is recovering, it is still a long way from normal.

Grounded international flights are another issue which could take years to return to any sort of normality and indeed, there may well be a new normal of lower business and leisure travel after the pandemic – particularly if treatments and a vaccine are not forthcoming.

The Russians puled out of co-operating with the Saudis on production because they thought the US shale producers were increasing their market share – a result that the Saudi’s “fixed’ by flooding the world with cheap oil which effectively shuttered the US industry.

Shale producers haven’t gone away

The US shale companies are certainly feeling lots of pain and even though some production is restarting, low oil and gas prices and a stressed junk bond market is not making things easy.

Even if demand does return quicker than expected and COVID-19 second waves don’t appear, those US shale producers will remain a thorn in the side of the OPEC partners and their fellow producing nations.

As soon as the oil price shows any life, they can bring those shale wells back into production which will again cause frustration for other producers that need the cash that comes from higher prices and sales to support their countries.

The swing producers in the US have been greatly damaged by the cratering oil price but they have not been obliterated and will be even more keen to ramp up production once the oil price approaches their profitable numbers.

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