Impact of Fall of Crude Oil Prices

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Impact of Fall of Crude Oil Prices

09 Mar 2020
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Amit Kumar Gupta@amitgupta0310

A thread on Crude. It's 20% fall today and 50% since Jan-2020.

Why Saudi decided to break the OPEC+ Cartel and its impact on equity markets? 

OPEC and Russia has been trying to keep production curtailed to keep Crude range bound (mostly in 50-60$ range). Deepening of cuts has been avoided so far to provide floor to the oil prices.  One critical reason till last year to do so was Saudi's ARMACO listing (top oil producer in the world).The IPO happened in early Dec to ridiculous numbers. 

An earlier post of the preview of OPEC meeting in Dec to give an idea about the background

 OPEC in their last meeting, against the market expectations, pledged deeper cuts in crude production with Saudi Arabia adding an extra 400k bpd in voluntary cuts.

But the dissent was clear even within Saudi and Russian camps. 

The critical issue was that the Shale production in US isn't growing as fast as anticipated. Estimates were falling everyday, last at 600k bpd.

There is lack of investment elsewhere so a shortfall was coming IF the global growth holds up. But it didn't. 

Then came #Coronavirus 

Travel and Tourism got hit. Driving and Flying were drastically reduced.

There's no storage for 5 million extra barrels per day. Something has to give in!  Finally Saudi decided enough is enough in Fri OPEC meeting. Saudi decided to boost oil production to ~11mbpd from the current ~9.5mbpd. They have slashed crude prices and offers aggressive discount to oil exported to US  As a result Crude has fallen 20% to start the day.

Bond markets have fallen off the cliff. US 10 year is now down to 0.5%, ~90bps down in the last two weeks. Virus scare, slower global growth, Fed cuts and now crude fall has led to heavy buying of treasuries as safe heaven 

But the story is not over yet.

If Crude stays lower for longer, more damage is coming up. You ask why?

It is by avoiding future sin that we retain a remission of the sins of the past - Henry B. Eyring 

All the cheap money raised from debt markets by energy companies post GFC in 2010-14 is due now in 2020-24. The debt market is virtually dead & unlikely to see any substantial rollovers. Balance sheets are getting deleveraged & most production companies are staying off market We are already way past the point where many oil producers can hedge in a profit.

In next few weeks, expect curbs on investment spending, followed by dividend cuts and outright shutdowns. That will at least take some production offline, but if there is no demand, there's still no bottom.

Remember, #Coronavirus has killed aviation and travel sector in the interim. This will take time to revive as number of cases reduce. 

There is likely to be massive consolidation globally in the energy space - either due to companies going bankrupt or low stock prices. The shift towards cash flow and away from production growth will put oil markets into oversupply. This will impact equity markets too. 

Few other key points :

(a) Crude fall is positive for India. That's like telling a partial lie. Stats have shown that Nifty, GDP and Crude rise has been linked in past 15 years. This time is no different. Will do a seperate thread on the same. 

(b) Saudi regime is changing things too quickly. Opening markets, giving foreigners access to investing, socially things are becoming more liberal And so on. A family coup to take over completely by the prince over an ailing king can't be ruled out. 

(c) The impact on India can be enormous.

  • Mukesh Ambani's plans of deleveraging balance sheet by selling partial stake to Armaco hits another roadblock. Political bickering will add to the drama. OMCs likely to feel the pinch too as inventory losses pile amid slower demand. 
  • Remittances from the gulf are likely to take a hit specially to south based companies.
  • Gold finance companies can benefit to gain business. Cement companies benefit significantly due to low energy costs. 
  • The over enthusiastic divestment plans of BPCL will also be impacted as due diligence process takes a nice twist. Many businesses may face existential threat while the other may get an exponential growth opportunity.
  • "Bigger is getting better" theme likely to grown on. 

This thread was posted here

https://twitter.com/amitgupta0310/status/1236844789514907648

Pic Courtesy: Moneycontrol

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