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  • KPB & Co Research

Summary ​

After a bout of sluggishness in Q4-2018, oil prices were steadily increasing, and peaked at about US$65.58/Bbls by mid-2019. But then, starting Q1-2020, oil prices declined rapidly to about US$20.55/Bbls. The decline in oil prices came on the heels of an expected slowdown in growth due the spread of the Corona virus as well as excess supply due to a conflict with oil producers. Going forward, the stars are aligned for oil prices to remain contained in the US$30/Bbls range as at-least one or more of the factors outlined could potentially last for a protracted period.​​

WTI Oil Price Since 2010

Conflict In OPEC Could Last For A Year​

Over the last 3 years Saudi Arabia has been in number massive conflicts both within their borders and internationally, perhaps because of the new crown prince's determination to influence global affairs. First, Saad Hariri -  former Prime Minister of Lebanon - abruptly resigned while he was in Saudi Arabian custody. Second, there was the persecution of dissidents within Saudi Arabia for having different opinions, then the detention of wealthy princes under the guise of corruption investigations, then the assassination of Jamal Khashoggi on Turkish soil, and now most recently the fall out with Russia over the direction of oil supply controls. The economic co-operation between Russia and OPEC fell apart after there was a disagreement between the two over the imposition of additional big supply cuts in order to keep a floor under oil prices. This resulted in Saudi Arabia and United Arab Emirates (UAE) both flooding the market with oil as they go after Russia's market share with the ultimate goal of forcing Russia's hand.

As both oil producing groups (Russia and OPEC) look to see who will blink first, the calculations and strategic positioning could result in a drawn out conflict​. The leader of OPEC - Saudi Arabia - has massive foreign exchange reserves - about US$490.6Bn as at January 2020 - which represents approximately 40.6 months of imports. This means that the country, if relying only on its foreign exchange reserves, would be able to purchase the goods and services it needs for 3 years or more. On the other hand, you have Russia that also has a lot of foreign exchange reserves stored up. Russia has approximately US$440Bn as at February 2020, which tantamount to approximately 27.3 months of imports. This indicates that the country can survive only on its foreign reserves for just over 2 years. At face value it appears that Saudi Arabia has the upper hand, but keep in mind that there are other members of OPEC - Venezuela, Iran, & Iraq - who are not in as strong a position as Saudi Arabia.

COVID-19 Could Be Around For 3 or Months

By all indications, it appears that the world will be dealing with COVID-19 for a while, although different countries and regions might experience peak outbreaks at different times. In China, COVID-19 peaked 80,867 infected cases after aggressive social distancing measures, and a month long economic shut down kept the lid on the spread of the virus. At this point, a number of countries are just starting to understand the extent of the damage that has already been done. Italy and Spain is in the early stages of the pandemic, but are a bit ahead of other western countries, and both have been in a total economic standstill for a few weeks. The UK, USA, and Canada are in the very early stages. At this point, testing have only just began to ramp up, and so these countries are not yet fully knowledgeable of the spread. Additionally, social distancing measures are already in place but are not being enforced as aggressively as in other countries such as Italy and China. The result of all the factors outlined is that the global economy will experience a fairly long down time before normalcy returns.

In Closing​

A combination of low economic growth, economic shutdown across the globe due to COVID-19, and conflicts between OPEC​ members and Russia, will likely put downward pressure on oil prices for protracted period into the future. It is quite likely that the current level of oil prices already reflects the more challenging market environment and so a floor might already been reach with more benefit expected on the upside. Nevertheless, the uncertainty in the months ahead will certainly see continued low oil prices for a few months at least.

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