Brent price crash adds to oil chaos even as OPEC+ rushes to cut output

Over 20 per cent fall comes despite OPEC+ agreeing to reduce production

The historic fall of the US benchmark West Texas Intermediate (WTI) crude oil futures for May to minus $37 a barrel on Monday created panic in the oil and financial markets across the globe. On Tuesday, the widely accepted benchmark Brent crude (cash) plunged more than 20 per cent to below $20 a barrel, triggering a sell-off in stock markets.

For India that benchmarks its imports giving 25 per cent weight to Brent, the crude oil basket is one third at $20 of 2019-20 average of $60.6 a barrel. The Indian crude oil basket, that gives another 75 per cent weight to Dubai-Oman, is expected to fall further on Wednesday.

Global demand for crude oil was already declining because of an economic slowdown, but lockdowns across the world due to the Covid-19 pandemic worsened the situation. According to the International Energy Agency, global oil demand will plunge by a record 9 million barrels per day (mbpd) on average in 2020, erasing almost a decade’s worth of growth. “April is expected to be the bleakest month for the industry, with demand set to plummet by 29 million barrels a day compared with the same month last year,” said the IEA in its report.

This week’s fall in prices comes despite Opec+ agreeing to reduce oil production by 9.7 mbpd for May and June. The grouping gradually plans to ease the curb to 7.7 mbpd between July and December 2020, and to 5.8 mbpd till April 2022 to stabilise prices. This is expected to reduce some surplus in the market by the end of 2020.

Though India is the third-biggest oil importer and could gain from the fall in global prices, the prices of products in India are linked to their own benchmarks. Besides, the rupee at 76.63 to a dollar is a worry for oil refiners. Each one rupee depreciation results in a 55-56 paise increase in product price, if everything remains the same. Only 40-50 per cent of product price is the cost of crude, with the remaining being taxes.

India, nevertheless, is planning to fill up its 5.33 million tonnes of strategic crude oil reserves at Vishakhapatnam, Mangalore, and Padur.  

According to Premasish Das, executive director, oil markets midstream and downstream, IHS Markit, the change in global oil demand and inventory levels and compliance from Opec+ producers are possibly the most important determinants for the oil market now. “Oil demand and its recovery will be dependent on various factors, including how and when the pandemic will come to an end, what would be the rippling impact on the economies, and, most importantly, how governments respond to the Covid-19 and economic issues. Compliance from the Opec+ producers will become more important when demand recovery starts, which we currently expect would happen in the second half of this year,” said Das.

Brent oil prices are expected to be in the $25-30 range for the second quarter while increasing marginally in the last two quarters of 2020. “The gigantic inventory build-ups and lack of storage facilities would also put pressure on prices. Overall, Brent could average $30-35 in 2020, with a strong downward bias,” said Miren Lodha, director, CRISIL Research on oil prices.

The delta between the US crude benchmark (WTI) and Brent has widened recently as storage in US is filing up rapidly and US production has not dropped much, leading to a lot of crude which has no place to go, said Aditya Gandhi, vice-president, energy and commodities, Publicis Sapient.

Given that over the last few years a number of pipeline projects have been completed in the US to help move the landlocked crude to the coast for export, Gandhi expects more of this crude oil to be available for export. “However, the overall demand is significantly low and storage across the world is also filling up fast. Also, as the crude market is in contango, people are buying more floating storage to store crude to sell later. This has put upward pressure on freight rates.” 

Given these constraints, there may be some options for India to buy crude oil cheaply in the US for the short term, he said, adding that managing logistics for it will not be easy.

WTI prices turned negative because traders on the Nymex rushed to offload their May futures positions a day before the expiry of contracts on Tuesday.

The contracts are settled in physical crude oil and, therefore, storage is problematic. Lodha of Crisil called this “more of a quirk of derivatives”.