The oil and gas industry is in peril. Suffering from a demand issue due to the coronavirus situation coupled with strong rhetorics between Saudi Arabia and Russia over a failure to agree to an OPEC+ (OPEC & Russia) led cut, we also have on hand an over supply capacity challenge. Since the failure to agree, Saudi Arabia upped her antics and decided instead to increase production by another 10 million barrels/day, which she has thus far followed through.
2nd April 2020 saw the largest one day gain in WTI oil prices following Trump’s tweet based on a phone call he had with Saudi Arabia they have anecdotally agreed to cutting production together with Russia equivalent to 10 million barrels/day. Note the word anecdotal – subsequently comments from Saudi Arabia and Russia were that no party agreed on such cuts, not even to the tune of 1 million barrel. In fact Riyadh and Moscow both confirmed they haven’t spoken to each other.
Does the biggest 1 day jump tell us anything?
YET we saw the biggest 1 day jump on 2nd April ever. Is this a short into strength signal or buy into a rally? According to CNBC, these are the dates we’ve seen the biggest 1 day gain in history:
2020 may turn out to have some similarities to the situation in 2008-2009. For one, between 2008 and 2009, 4 out the 10 biggest one day gain records came from this period. Thus far in 2020, we have printed 2 out of 10 on record, both taking the top spot. Second 2008 was an official recession and there are good reasons to believe in 2020 we are in one too.
How does 2020 compare with history?
So how did these biggest 1 day gains turn out going forward? Quite frankly, it’s a mixed bag. If we take out the data point for 22/9/2008 assuming we are of the opinion it is not relevant, as oil prices at that time were coming off a high, the statistics are fairly promising. In most cases 3 months forward oil prices were positive 100% of all cases. One could reason from what we know of history in 2009 the world economy started on a recovery path, with increasing demand for oil, which had been bullish for oil prices.
However, one could also argue US Shale oil was not a dominant force at that time and going forward in 2020 even if demand for oil did pick up, that we wouldn’t have a corresponding supply shortfall. Quite the contrary, 2016 – 2020 looks more similar to the oil glut issue in the 1980s which really only started to change tunes in 2000s.
One thing is for certain though – we can expect more 1 day gains in 2020 similar to 2008-2009. And here’s why.
Why we can expect more Volatility for Oil
It is increasingly clear this strong arm tactics from Saudi Arabia is aimed at forcing all key oil producers to come to the table. And I don’t mean just the extended OPEC + Russia and other coalitions. This is fairly apparent by her call for an emergency meeting this coming Thursday (postponed from Monday) 9th April 2020, was targeted at reaching a mutual agreement to restore balance to the oil markets, based on an OPEC++ group.
This is key. Saudi Arabia is not interested in making a deal just with Russia. It had done so previously and nothing much had come out of it. Instead, what they are really interested in is a global supply cut by all major world producers, or quite frankly nothing at all. This Bloomberg chart summarises this list pretty succinctly. Some on that list have expressed interest in a joint cut for example, Norway: https://www.bloomberg.com/news/articles/2020-04-04/norway-may-join-oil-output-cuts-for-the-first-time-since-2002.
On the other hand, let’s not forget we are dealing also with Mr Tariff man who is only interested in protecting America’s interest.
As the saying goes, too many cooks spoil the broth.
Here’s several reasons why more volatility is to be expected in the coming days:
- Russia and Saudi have already begun strong rhetorics against each other (https://www.bloomberg.com/news/articles/2020-04-04/saudi-arabia-says-putin-s-comments-on-opec-deal-is-incorrect?sref=5F8Ao01j)
- Apparently US and Canada have already started discussions on applying tariffs for Russian and Saudi Oil
- Trump has been consistent in his messages that he expects Russia and OPEC to cut to stabilise prices, and not the USA. This is clearly not what the Saudis want.
- Ted Cruz and several other senators have also made it clear they expect OPEC to cut because it is hurting US shale producers, in a call to the Saudi Ambassador (https://www.cnbc.com/2020/03/30/cruz-warns-saudis-to-stop-using-oil-in-economic-warfare-against-us.html)
- Lastly, unlike the rest of the world that are struggling to find storage space for oil. Saudi crude stockpiles have been decreasing since 2015 and can presumably, be refilled.
Trade Ideas?
- Not for the faint hearted – those willing to take a long term view can consider a buy and hold strategy for the long term. Ultimately, Saudi did not go to these lengths not to get something out of this. Furthermore, Trump is afterall well known as the “Deal Maker”. For clarity, this path should it materialise is akin to a treacherous path up the most difficult of mountains.
- Shorting when it is strong especially before Thursday’s Meeting. Given what we know of Trump’s negotiation tactics it is unlikely we will have an agreement on Thursday (assuming if it will even happen). The last Opec meeting failed to achieve an agreement between Opec and Russia. Given what we know of USA’s position as it stands, our expectations are for a preliminary “No Deal”. There is just no incentive for Russia and OPEC to agree to a cut without USA on the table and agreeing to the same stakes, all things being equal.
