Saudi Arabia’s move to flood the crude oil market is on a collision course with global demand that is about to be pummelled by the coronavirus pandemic, especially in North America and Europe.
As the outbreak intensifies and spreads across Europe and the United States, governments are trying to contain it by effectively shutting down many transport links and encouraging social distancing.
While it’s still too early to come up with a definitive number for how much global oil demand will be lost, and over what time period, it’s virtually certain it will be significant.
It’s also worth noting that China’s experience with the coronavirus, which started in the city of Wuhan and ultimately led to large-scale quarantining in the world’s second-biggest economy, is likely to be quite different to that in the rest of the world.
When the spread of the coronavirus led to quarantining and economic disruption across much of China, there were estimates that the loss in crude oil consumption was as much as 3 million to 4 million barrels per day (bpd), or up to about one-third of Chinese daily demand.
The dramatic slowing in crude oil consumption, however, didn’t translate into a major slowdown in imports, as Chinese refiners and authorities chose to continue to buy overseas crude to divert into storage.
There has been a definite slowing in Chinese import demand, but so far it has been modest, and nowhere the scale of the loss of consumption seen at the peak of China’s battle with the coronavirus, roughly from late January through to early March.
While January’s imports wouldn’t have been affected by the outbreak, there were reports of cargoes being deferred in February, and if Chinese import demand has slackened it would be showing up mostly in the current month, and possibly into April.
Refinitiv Oil Research, however, has estimated that March imports will be around 10.1 million bpd, only slightly below the official figures for the first two months of the year, which came in at 10.5 million bpd.
The Refinitiv estimate does represent a marked slowing from the average of 10.85 million bpd in the last quarter of 2019, but it is also nowhere near as bad as the numerous reports and estimates of a loss of up to 4 million bpd of consumption during the worst of the coronavirus in China.
But the point is that China is vastly different to Europe and the United States, where the full impact of the coronavirus is starting to be felt.
Yes, storage is available and it’s likely that the cheap crude now on offer from the Saudis and others will flow into some of these tanks.
But will this be enough to offset what is likely to be a major hit to demand?
Again, it’s too early to quantify just how much crude demand is likely to fall in coming weeks as more and more countries go into effective lockdown and the skies empty of passenger jets.
Even a 20% hit in Europe and North America would mean the loss of about 8 million bpd, though, given that the 2019 BP Statistical Review of World Energy put the two regions’ combined crude demand at about 40 million bpd.
Throw in lower consumption from South America, Africa and the Middle East as the coronavirus inevitably spreads, and still soft demand as part of Asia starts to recover, and it’s likely that crude demand will be at least 10 million bpd lower over the coming weeks.
This would be around 10% of global demand and maybe something of a best case scenario, depending on how successful authorities are in containing the spread of the coronavirus.
This significant demand shock is coming at the same time as a massive supply shock, with top exporter Saudi Arabia working to gain market share at the expense of its former partner in output cuts, Russia, and to reclaim ground from U.S. shale producers, who made gains as OPEC and its allies curbed output.
The Saudis have indicated they will produce 12.3 million bpd in April, up from 9.7 million bpd in February, and it appears likely that Russia will also add barrels to the market.
The U.S. government has indicated it will buy crude for its strategic reserves, but it has only about 78.5 million barrels of space available, and it may not be able to fill this with shale oil given some technical limitations on the types of crude that can be stored.
There may be as much as 578 million barrels of onshore storage available globally, Goldman Sachs said in a report on March 15, which implies there is room to store much of the likely surplus, at least for a while.
But the question is whether private companies or governments will have the appetite to buy crude and stockpile it.
Government budgets are going to be under enormous strain in coming months, and for private companies to buy and store crude they will have to be convinced that future prices will be high enough to offset the cost of storage as well as the cost of holding the crude for several months.
It may take substantially lower prompt prices to convince traders that this will be the case. So even though benchmark Brent futures have lost about 54% from their peak so far this year in January, they may still have further to drop.