Oil Price Recovery: How Sustainable?

Oil Price Recovery: How Sustainable?


During the week, global oil prices rallied from a one-year low to hit $60, a development that has been interpreted in various ways by market watchers. In this report, Emmanuel Addeh analyses the steady rise of oil prices over the last couple of months and examines the possibility of sustaining it vis-à-vis the usual industry uncertainties that have even become more pronounced with the outbreak of the COVID-19 pandemic

It took a while, but Brent prices, the oil against which Nigeria’s crude is benchmarked, has finally broken through the technical resistance level of $60/barrel and has continued on an upward swing, except for Thursday when it lost a few cents.

Although there are already projections that oil prices could rally to $70-72 per barrel in the coming months, same with the peaks of September 2019 and January 2020, however, there is still some level of pessimism as to how long this situation can endure.

The proponents of both sides of the argument as to the sustainability of the ongoing rise may not be wrong after all, depending on the data they are looking at based on current market fundamentals as ongoing re-balancing efforts remain fragile amid weaker estimates for demand and a recovery in supplies.

A Tortuous 2020

Nowhere in recent history has the global oil and gas market had such a bad year as 2020. The market had an especially volatile year, beginning with a price war between Saudi Arabia and Russia and then compounded by the ravaging impact of the coronavirus pandemic.

There was a crushing impact on demand as countries began to lockdown, leaving oil-dependent sectors, critically devastated and the capacity of countries which rely on the commodity to survive almost at the end of their tether.

For the first time, oil prices dropped to the negative zone, as the Organisation of Petroleum Exporting Countries (OPEC) in April rallied its members and allies to agree on production cuts to stabilise the market.

In the main, oil oversupply and COVID-19 impact drove crude oil prices in 2020, although the US benchmark West Texas Intermediate (WTI) price, had started the year 2020 at $61 per barrel.

But as the market responded negatively in February of last year, to the competition between Saudi Arabia and Russia, followed by lockdowns around the world, the WTI price turned negative for the first time in history in April, to -$37.63 per barrel.

With OPEC agreement and the development of vaccines against the virus, the bumpy road to recovery began, steadily hitting $60 last week

Cautious Forecasts

Two of the world’s most renowned bodies in the industry, the OPEC and the International Energy Agency (IEA) have cut their projections for key market indices for the umpteenth time.

The IEA, for instance, during the week cut forecasts for world oil consumption in 2021 by 200,000 barrels a day as the pandemic continues to limit travel and economic activity.

It boosted projections for supplies outside the OPEC cartel by 400,000 barrels a day as a price recovery spurs investment.

On Thursday, it maintained that the “renewed lockdowns, stringent mobility restrictions and a rather slow vaccine rollout in Europe have delayed the anticipated rebound.”

The Paris-based agency, which advises major economies, said in its monthly report, however, that the market’s prospects look stronger in the second half of the year with swollen oil inventories expected to decline sharply as fuel use picks up, and as OPEC and its allies keep a lid on supplies.

“The outlook for the economy and for oil demand in 2021 is looking brighter despite the near-term weakness,” Toril Bosoni, head of the IEA’s oil markets and industry division, said, adding that, “A rapid stock draw is anticipated during the second half.”

It predicted that over the course of 2021, about 60 per cent of the demand lost last year should be recovered, while global consumption will increase this year by 5.4 million barrels a day to average 96.4 million a day.

In the short term, however, the IEA said market conditions face a temporary setback, saying that demand will decline by 1 million barrels this quarter versus late last year.

On its part, in its latest market report, an OPEC boosted estimates for the average volume of crude it will need to pump this year, by 340,000 barrels a day, because of a stronger demand forecast and signs that rivals are faltering.

OPEC projected that it would need to supply 27.5 million barrels a day to fully satisfy demand in 2021, or about 2 million more than it’s currently producing, but still trimming its initial demand projection by about 100,000bpd.

“The global vaccination rollout is gaining pace, infection rates are falling in some areas, improvements in treatment and the growing use of rapid testing facilities all lend support to an acceleration of economic activity after the first quarter,” OPEC said.

Impossibility of Accurate Predictions

When he talks about the volatility of the international oil market, Group Managing Director of the Nigerian National Petroleum Corporation (NNPC), Mr. Mele Kyari, has always described it as a “voodoo” market. The statement simply underscores the impracticality of accurately predicting the market.

Since the oil crisis of 70’s and early 80’s, the price of crude oil had remained, mostly, in a $10-$30 band before breaking out of it in 2004. This breakout was primarily due to China-led oil demand growth and its impact on OPEC’s surplus oil production resulting in concerns about the tighter supply-demand situation.

The 2008 financial crisis led to global recession, which resulted in an unprecedented fall in oil prices by over $100, from its all-time highs of $140 per barrel before resuming an uptrend due to economic recovery.

For the next 5 years, the prices hovered around the $100 mark whilst the shale boom in the US continued. That fall in prices from a high of $140 at a point to its spiral into the negative zone in 2020 aptly shows how almost impossible it is to predict the oil market.

Eyes on the Vaccine

To a very large extent, how fast world leaders are able to ramp up vaccine distribution in the nations of the world will determine whether demand will increase in the coming months.

Although the market has largely rebounded, the thing for industry right now is not the low crude prices, but the decline in demand for refined products.

Demand has largely fallen because of lockdowns that have led to restriction, for example on flights, land travel and even reduction in manufacturing capacity of many industries.Because of the lack of demand for refined products, crude oil refineries are being shut down in parts of the world, thereby reducing demand for crude oil leading to fragility in prices.

Energy prices will continue to benefit from demand-side optimism as the world continues to embrace the vaccines from Pfizer and BioNTech and other several jabs that have now been approved for use.

Adherence to OPEC Production Cuts

Will OPEC members and allies have the discipline to continue to adhere to the compulsory cuts and intermittent reviews? In part, prices are rising today because of the singular decision to embark on crude oil production curbs.

While Nigeria was targeting 3 million barrels per day at the time and had already exceeded 2 million barrels, the OPEC decision meant that the country had to roll back its progress in terms of its daily production which fell to as low as 1.4 million or thereabout at some point.

While the record production cut is a way of balancing the mismatch between supply and demand in global oil prices due to the coronavirus pandemic, Nigeria has borne part of the brunt , having to shut down some of its oil wells to comply with the OPEC quota.

On how this move saved the market from collapse, Secretary General of OPEC, Dr Sanusi Barkindo, highlighted the role played by the Declaration of Cooperation (DoC), the cartel’s framework for supply stability, in halting an excess crude oil volume of 1.3 billion into the market in 2020.

“I am sure each and every one of us can recall the dire situation the industry was in, which was most dramatically illustrated on 20 April 2020 when the price of WTI went negative. It was a visceral day, and one often described as ‘Black Monday’.

“It was a time when the industry faced a potential crude oversupply of nearly 1.3 billion barrels. There were even deep concerns that some storage hubs could actually reach tank tops.

“Thankfully, this never came to pass, in part due to the decisive actions of the DoC. Since then the DoC has shown great courage and flexibility and has adapted as and when necessary to changing market dynamics, particularly with the post-summer advent of second and third waves of Covid-19.”

If the OPEC members and allies stick with the plan, the world may just see another huge rally in prices in the coming weeks.

Shifting Investment to Renewables

The oil and gas industry faces opposition and huge threats from a public greatly concerned with the environmental impact of fossil fuels and investors, who are shy of putting their monies in oil and gas.

As it is, investments are shifting from the oil and gas industry to renewables. There’s a real global energy transition, putting the future of oil and gas companies and oil-dependent countries increasingly in question.

Coupled with competition from America shale, there is a gradual shift from policies that have supported oil and gas production to policies that instead are starting to disincentivise fossil fuels.

Although not a threat in the short term, major oil companies have begun to execute plans to divest from crude oil to renewable energy sources. This will in the long-term affect demand and by extension prices.

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