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Opec +

The impact on the global economy

June 2020

Overview

With the Tokyo 2020 Olympics postponed until 2021, perhaps the most highly-anticipated global spectacle has been the OPEC+ meeting! During the last OPEC meeting on the 8th of March 2020, Saudi Arabia and Russian began an Oil pricing trade war which caused a global wave of sell-offs across every global stock exchange for the remainder of the week. 

 

The stench of fear dominated news headlines, despite the rescue packages governments were touting to resuscitate their respective economies. So, why is the 2020 Oil Crash any different from the incidences and why are consumers unhappy about cheaper fuel for their cars?​Simply put, this time, the Oil Crash is combining with the effects of the COVID-19 global pandemic to destroy jobs and decimate employment globally. Despite cheaper fuel, commercial flights and logistics are simply not flying. Although businesses have cheaper diesel, farm tractors and mining trucks are all parked. 

 

Even with cheaper Oil, oil exporting countries are facing outgoing expenses to combat COVID-19 but receiving no income to counterbalance the free-fall. In the wake of COVID-19, nobody is going on cruises or holidays due to mandatory lockdowns to reduce the spread of this contagion. Consequently, this is simply a lose-lose situation for everyone, globally.​ 

 

For a week at the beginning of April, the major oil companies rallied with growth of up to 30%. Most of this bull run was because of President Trump’s tweet on 2nd April 2020, which pushed Oil from a 20-year low of $19 to $30 a barrel within the space of 10 days. The OPEC+ meeting on the 9th April 2020 concluded with a 9.7m+ bpd reduction in production and the oil price stabilised just above $30 with no further room to grow. 

 

Instead of topping up the entire global storage capacity over 4 weeks, it is estimated that it will take between 8 and 10 weeks, but the question of oversupply still looms in the background. If the global storage capacity does fill up, this could push the oil price down as low as $10 a barrel. The world now waits for the resumption of normality – whatever that will mean – beginning with China opening up its borders and allowing work to resume.

Technically-speaking, a 9.7m+ bpd cut in production will not give sufficient time for the European and North American markets to recover from the shutdown. Goldman Sacs’s oil experts have advised that at least 20m bpd should be cut as a minimum to provide at least 14 weeks for the COVID-19 peaks to be squashed to as low as practicable to avoid a second wave of contagion. 

Technically-speaking, a 9.7m+ bpd cut in production will not give sufficient time for the European and North American markets to recover from the shutdown. Goldman Sacs’s oil experts have advised that at least 20m bpd should be cut as a minimum to provide at least 14 weeks for the COVID-19 peaks to be squashed to as low as practicable to avoid a second wave of contagion. 

With a minimum 20m bpd reduction, the price of oil should recover to around $38 per barrel which would help shale fields and major operators to continue with their capital expenditure on key projects, saving hundreds of thousands of jobs in the oil industry globally.Most oil-producing countries, like Saudi Arabia, Yemen, Iran, Brunei and Venezuela, have most of their income revenue based on Oil exports. Any reduction of oil production means less income and consequent reduction in GDP for the year for these countries. Therefore, this Oil reduction has only been agreed for two months and no more.

Another adjacent issue surrounding a global low oil price environment is the pressure on operators to push maximum production, which drives their cash flow and sustains their high outgoing expenditures. The likes of Shell, BP and Total require the oil price to be above an average of $35 a barrel to break even. Most of their cash flows are dividends paid-out to shareholders. In the past, major oil operators have sought to suspend projects and retrench workforce rather than suspending the dividend. payments. Consequently, it is likely that more people will lose jobs in the industry, drilling & exploration will halt and EPC and O&M contractors will lose significant revenue.

It goes to show how a video conference meeting between key OPEC+ members has a disproportionately large impact on millions of lives around the world. President Trump may not be getting the 20m bpd oil reduction he was hoping for, but this OPEC+ meeting did pull the global economy out of the bear market. The nightmare of a 45%+ recession may have been mitigated – for the time-being – and major companies around the world may escape bankruptcy in 2020. It is certainly a beacon of light in otherwise dark and uncertain waters.  

About the author(s)

Alex Koh is an independent analyst and writer. Harold Alby is a managing director and COO at Inova Capital. Justin Inniss is a managing director at Inova Capital. For more details on our insights please get in touch with us at Inova on +41 415616905. Inquire about our ideas and nowcasting capabilities.