From Peak Oil to Negative OilSubmitted by Kaizen Financial Advisors, LLC on April 23rd, 2020
If somebody had told you 15 years ago when oil prices were rising above $150 a barrel that oil producers would be paying storage companies to take oil off their hands, what would you have said? For that matter, what would you have said if somebody had told you these things a month ago?
The chart below shows the real, inflation-adjusted price of oil from 1870 to today, and what you see on the right side is a price collapse of unprecedented proportions. As pandemic-related lockdowns force factories to close and people to stop auto and air travel, global demand for oil has fallen by a shocking 29 million barrels a day. Oil exporters have reduced production, but not by nearly this degree, which means that, until Monday (April 20), they were selling the excess at below-extraction prices to anybody with the storage capacity to accept it. Storage capacity filled up rapidly, so that for a brief time, producers had to pay those who still had room in their storage facilities (via crude oil contracts) up to $40 a barrel to take the oil off their hands. Other producers are leasing tankers at high costs and storing oil at sea—reportedly paying $100,000 per day for each tanker.
Of course, oil does not actually have a negative worth, and the negative price concerned only contracts for delivery in May that are traded on the futures markets. Month-out futures contracts are selling at roughly $20 a barrel—suggesting that oil traders believe production will come back in line with demand. Crude exporters shut down 13% of the American drilling fleet, while Russia and the OPEC countries have agreed to reduce output by 9.7 million barrels a day. The White House has proposed paying U.S. frackers to keep their oil in the ground, but it can be costly to restart operations, and a shut oil facility may be damaged permanently. About all the government can do, currently, is lease space for an additional 47 million barrels in the Strategic Petroleum Reserve.
This is obviously uncharted territory for the global economy and investment markets. Nobody really knows what will happen except, perhaps, a number of bankruptcies among oil drilling companies. The average price for a gallon of regular gasoline in the U.S. has fallen to $1.49 a gallon, down a dollar from a year ago, but who today is filling up their tanks? Name brand companies like Exxon and Chevron are likely to see earnings declines, but in total, the oil and gas industry only makes up about eight percent of the U.S. gross domestic product—compared with 14 percent in the 1980s. The shock of watching energy producers paying others to take oil off their hands could cause additional volatility in both the commodities and stock markets, adding just one more strange thing about this unique period in our lives.
If you are curious about how changes in the market are impacting you, please do not hesitate to reach out to a Kaizen Advisor. We can help you consider the implications for your financial future.
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