The current rout in oil prices was started by a feud between the Russians and the Soviets. This resulted in: 1) about 10 million barrels per day of excess production and 2) prices falling by two-thirds. Prices fell from $50 to 60 per barrel to $20 to 25 per barrel.

Covid-19 started shutting down the U.S., along with most of the world, two to three weeks ago. There is effectively a national “shelter in place” order. Demand for crude oil is expected to fall 15 to 20%, or about 15 to 20 million barrels per day. However, there is some indication that production is starting to fall.

Worldwide demand for crude oil was about 100 million barrels per day. The extra oil pumped by the Saudis and Russians caused a glut of 10 million barrels per day.

Crude oil storage space totals 1.6 billion barrels. The storage facilities are 75% full, leaving about 400 million barrels of storage space. 20 million barrels per day of excess production will fill storage to capacity in 20 days. 10 million barrels a day for 40 days also fills storage.

The price of oil would plummet to near zero without space available to oil. The price of crude oil is more likely to be below $10 per barrel in 30 to 90 days instead of above it.

Most oil producers have a marginal production cost about $20 per barrel. Only 3 counties have a marginal cost of production below $15 per barrel: 1) Saudi Arabia, 2) United Arab Emirates (UAE) and 3) Iraq.

The marginal cost of producing oil is $15 to 20 per barrel for: Nigeria (on-shore), Oman, Qatar, Iran, Algeria, Kazakhstan, Venezuela and Ecuador and U.S. (on-shore but not shale).

West Texas Crude is just above $20 per barrel today. It is rational that producers with a marginal cost above $20 to produce would slow production. This is particularly true since the crude oil storage facilities are 75% full. Oil producers are well aware storage capacities are almost full. However, producers who cease production lose their mineral rights. So they will be reticent to stop production.

It is a tough call whether oil producers will halt production prior to filling existing storage. Once existing storage is exceeded, the price will plummet.

Patrick O’Connor

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