Each week Josef Schachter will give you his insights into global events, price forecasts and the fundamentals of the energy sector. Josef offers a twice monthly Black Gold newsletter covering the general energy market and 31 energy and energy service companies with regular updates. He holds quarterly subscriber webinars and provides Action BUY and SELL Alerts for paid subscribers. Learn more and subscribe.
EIA Weekly Data: Wednesday’s EIA data was horrible with an overall commercial stock increase of 15.2Mb versus the forecast of a 9.7Mb build. The large build was due to a fall in demand of 19% or down by 3.4Mb/d to 14.4Mb/d as quarantining expanded across the US. Gasoline inventories rose by 10.5Mb as demand fell 24% or 1.6Mb/d to 5.1Mb/d. Worst hit was jet fuel usage which fell 43% or 579Kb/d to 755Kb/d as more flights were cancelled. Over the last four weeks demand in the US has fallen by 7.5Mb/d from 21.9Mb/d to this week’s report of 14.4Mb/d. With more quarantining happening in more States across the US (i.e. Florida now under stay at home rules) we may see US demand fall to below 11.0Mb/d in the next few weeks. This would be a fall of 50% from the start of March. Overall stocks in the US rose by a whopping 33.0Mb on the week. US domestic production which had held steady for weeks at 13.0Mb/d, fell by 600Kb/d this week to 12.4Mb and is on its way to the EIA forecast of 11.0Mb/d for later this year. With massive budget cuts coming across the energy sector the likelihood of US production falling to 10.0Mb/d or lower, is possible by Q3/20, if crude prices stay below US$30/b for another month or so. Many oil companies are now shutting in high cost oil and low volume wells are the earliest ones to be shut-in. US real GDP for Q2/20 now has forecasts of declines of 25-30%. Former Fed Chair Bernanke, interviewed this week, is in the down 30% camp. With demand faltering, refinery utilization fell from 82.3% last week to 75.6% this week. This compares to last year at this time of 87.5%. Storage is filling up in the US with Cushing seeing a build of 6.4Mb or by 15% to 49.2Mb. There may only be 20-25Mb left in this main storage hub. Exports fell by 322Kb/d or by 2.3Mb on the week as buyers retreated from acquiring US crude as storage in most consuming countries is filling up.
Baker Hughes Rig Data: Last week Friday the Baker Hughes rig survey showed a decline in the US rig count of 64 rigs to 664 rigs and down 35% from 1,025 rigs working a year ago. The Permian felt the largest loss with a rig loss of 31 or down by 24% from a year earlier. We expect the US rig count to fall to 400 or less in the next month or so. With high depletion for new wells this supports the view that the US production could fall to 10.0Mb/d in Q3/20. Canada had a larger percent decline with 13 rigs ending work and the count now at 41 rigs down from 68 a year ago. With WCS below transportation costs, it is likely that 500Kb/d will be shut in in Canada during Q2/20 and maybe 1.0Mb/d before the end of Q3/20 if prices for WCS remain below operating and transportation costs. Breakup is coming and the rig count may be the lowest on record for the next few months.
OPEC Meeting And Possible Outcomes: OPEC meets via conference call on Thursday April 9th to see if they can come up with a plan to cut back between 10Mb and 15Mb/d. President Trump called the Crown Prince of Saudi Arabia and President Putin of Russia asking them to make such a large cut and the markets are hopeful such a cut will make a difference. We are skeptical! First, there is the issue of from what level the cuts will be made. Do they use the numbers from Q1/20 when Saudi Arabia was producing 9.7Mb/d or from the 12.3Mb/d that they say they are at now? Second, are the cuts only in OPEC or do they need cuts from non-OPEC to make the deal happen? Third, can production cuts by lower oil company spending be acceptable for any US cutback requested by OPEC? There is chatter that OPEC wants firm non-OPEC cuts of 3-5Mb/d to meet the 15Mb/d target. This may happen naturally just in the US because of lower crude prices. OPEC wants the US to agree to a long term firm binding cut, so that if prices recover in Q3/20 that US production would not be brought back on in a WTI price recovery over US$50/b. Whatever deal is agreed to we suspect that many OPEC members will not adhere to their new quota level, and for sure don’t expect Russia to abide, as they have not done so on previous deals. To get Russia to agree to the last deal Saudi Arabia allowed Russia to not include condensate in their new quota, effectively giving them growing production and not a cut. A political victory for them to say Russian was part of their OPEC+ cutback but not a real cut. With US demand down alone by 7.5Mb/d in just the last month and likely to fall even further in the coming weeks, and with the US being 20% of world demand, it is very likely that overall world demand in Q2/20 will fall over 25Mb/d. If so, any proposed cut of up to 15.0Mb/d will not be sufficient to change the downside pressure on prices. World crude inventories will build until all land and sea storage is used up and then and only if the Covid-19 virus is behind Europe, North America and India, will demand rise sufficiently for there to be a balance of supply and demand. From recent updates by the health care professionals in both Canada and the US it appears that only sometime in May (there are many forecasts of later than June to be back to work) can we look for a staggered start to ending quarantining. Once back we will probably see distancing needed and temperature testing required before entering buildings or using public transportation.
Conclusion: Investors have been hopeful that OPEC will come up with some great cutback plan that lifts crude prices back over US$50/b for WTI and over US$55/b for Brent, which are prices needed for breakeven in the US and Canada. We do not see this as likely. The Saudi’s started this with a game plan to drive out high cost production around the world and they have signed up most of the large crude carrier fleet to have the inventory overhang in the consuming nations. The Saudi’s know there will be no real cutback by the Russians so they are trying to get non-OPEC to agree to firm cuts and the closure of high cost production like the North American shales, heavy oil and oil sands. We do not see the US agreeing to firm cuts as this would mean the US would move from being self sufficient to returning to be a net importer. This would not be in America’s long term interest. Canada is unlikely to agree either. The Saudi’s started this price war and they should cut from their April production level of 12.3Mb/d to below 5.0Mb/d to be effective. Their OPEC allies will need to cut back 5.0Mb/d or more. With market forces dropping production in non-OPEC countries and with a significant OPEC cut, when the virus is behind us, crude prices should strengthen.
We expect to see WTI fall from Wednesday’s level of US$24.42/b to below the low of US$19.48/b of March 30th. The S&P TSX Energy index now at 65 should fall to the 32-36 level in the next few weeks as no realistic deal is seen and crude falls to below US$19 (range US$17-19/b at the final low). The recent bear market short covering rally over the last three weeks of 75% is now spent at the high of 68 and we see it falling over the coming weeks. This short covering rally took the S&P Energy Bullish Percent Index from 0% on March 9th to 85% on Wednesday. We see it falling below 5% again as the markets retreat. One further negative for the sector is the overwhelming bullishness now by commodity speculators who as of last week were long 428Mb while commercials (refiners and other crude users) were short 480Mb. Normally at true bottoms speculators have gone to minimal long positions or to being short and commercials see the cheap prices and move to net long. We got a BUY signal from the Energy Bullish Percent Index on March 13th and added eight new ideas to our Action Alert BUY list. We expect to see another below 5% BUY signal in the coming weeks and we intend to send out an Action Alert to subscribers when this occurs and also focus on the best of the best ideas at that time. To get access to our research please go to http://bit.ly/2OvRCbP to subscribe.