It feels 2014 all over again. Or 2008.
The OPEC+ meeting broke up without a deal on Friday, sending oil prices into a freefall. Brent was down by about 9 percent during midday trading, rapidly heading to the low-$40s. Oil prices could test the 2016 lows before all is said and done.
Russia has resisted cutting production deeper. On Thursday, on the eve of the final day of talks, OPEC more or less issued an ultimatum. They proposed 1.5 million barrels per day (mb/d) of additional production cuts, and suggested that OPEC would not cut alone without Russia’s participation. “There will be no deal” without Russia, Iran’s oil minister said.
Moscow called their bluff. On Friday, everyone walked away and there was no deal. As of midday on Friday, WTI plunged to $42 and Brent fell to $46, down 9 percent, the lowest level in nearly three years. The entire OPEC+ arrangement is now in doubt.
Even worse for oil prices, the existing production cuts, agreed to only a few months ago, expires at the end of the month. As it stands, members of the OPEC+ coalition could conceivably raise output beginning in April, exacerbating the global glut.
But Russia’s resistance rested on some reasonable logic. Global demand is contracting by the largest amount in history – a worse demand shock than what occurred even during the global financial crisis.
It’s not clear that this can be fixed by supply cuts. The Russian argument seems to be: a demand-side problem has to be met with a demand-side response – via lower prices. Or, put another way: let the market sort it all out. As a result, oil prices nosedived on Friday. It may not be the end of the story. OPEC+ members said that consultations will continue, but negotiators need time to cool down, according to Iran’s oil minister.
There are echoes of the 2014 OPEC meeting, when then Saudi oil minister Ali al-Naimi preferred to let the market fix the growing supply/demand imbalance. That led to a steep drop in oil prices, a downturn that did not turn a corner until 18 months later. The plunge in prices ground U.S. shale supply growth to a halt.
This time could be much worse. Not only is the oil market facing a disaster, but this time it’s a demand-led crisis. The global economy is facing real questions about a recession, and the coronavirus continues to spread. The airline industry, for instance, could lose more than $100 billion. The worse may yet lie ahead. In that sense, the analog could be more 2008 than 2016.
“It is the most severe decline since Q4 2008, the height of the 2008-2009 global economic crisis, which saw demand tumble by 2.8 million b/d year-on-year,” Ann-Louise Hittle, vice president, Macro Oils, at Wood Mackenzie, said in a statement. The consultancy sees demand contracting by 2.7 mb/d in the first quarter. “If the impact the coronavirus has had on global oil demand is sustained, then by the second half of the year we’d expect to see weaker GDP. This will have a far greater impact on oil demand than just temporary reductions in jet fuel and gasoline demand.”
For U.S. shale, a disaster lies ahead. The industry has been largely unprofitable to date, but had received several rounds of huge injections of capital in the last decade, most recently following the 2016 downturn. But by last year, investors had begun to sour on unprofitable shale drilling. Energy stocks collapsed and access to capital became increasingly scarce.
That was all true before the coronavirus and before the failed OPEC+ meeting. Now, U.S. shale will likely find itself in a state of true crisis.
Unlike a few years ago, recapitalization in any meaningful way is off the table. Capital markets have turned off the spigot. Also, the twice-a-year credit redetermination period is getting underway, and the most recent slide in prices will likely mean an immediate cut to credit lines from lenders.
Worse, the wave of debt taken out during the 2014-2016 downturn is about to come due. North American oil and gas companies have more than $200 billion in debt maturing over the next four years, with $40 billion due this year.
Peak shale may have finally arrived.