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Anthony Okolie talks with Bart Melek, Global Head of Commodity Strategy, TD Securities, about what negative oil prices mean, the implications for Canada’s oil sector, and the longer-term outlook for oil prices.
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Hello, and welcome to Money Talk's COVID-19 Daily Bulletin for Tuesday, April 21. My name is Anthony Okolie. In a few minutes, I'll be speaking with Bart Melek, he's a Global Head of Commodity Strategies at TD Securities, about the latest development in the oil sector. But first, a quick wrap of today's market news.
The price of US crude has continued to slide today after the May futures contract fell below zero for the first time in history over concerns about falling demand and a lack of storage capacity. The first post-COVID-19 quarterly earnings season continues to roll out. Canadian miner Teck Resources reported a much bigger than expected 84% plunge in quarterly profit, as production of steel-making coal was hit by the coronavirus-led lockdowns.
And in the US, Coca-Cola reported better-than-expected earnings but said the closure of movie theaters, restaurants, and stadiums from the coronavirus continues to hurt its business. And finally, in economic news, Statistics Canada says retail sales edged up a modest 0.3% in February, which would be prior to the COVID-19 pandemic lockdown. Looking ahead to March, TD Economics expects only the food and beverage sector to report any real gains. And that's a wrap of today's market news. As promised, my conversation with Bart Melek.
Bart, for the first time in history, that price of oil contracts fell below zero to as low as minus $38 US a barrel. Why is this happening?
- Well, fundamentally, it's lack of demand and oversupply, but there are some technical reasons for this as well that I think have a lot to do with what we've seen yesterday with that historic move towards negative pricing. What we've seen is we've seen quite a robust position taken by ETFs who can't typically take delivery of crude. And as the contract started to move to maturity and a lot of players didn't roll it in time, they waited for the last minute. And in a rush, they had to basically roll the contract and make sure that the crude goes somewhere, at least some of them.
And the spot where this contract is linked to, which is Cushing, was not necessarily reaching physical limits, but most of the storage capacity has been contracted. So therefore, arrangements had to be made for some holders of crude to ship this material somewhere else and certainly convince somebody to take on the current material and we had to see the roll. We still face a danger that this could happen again this month.
- And as you mentioned, that was for the May contract, which expires today. And my next question was can we see this for June, July, possibly August contract?
- It's not our base case, but we certainly believe that we will continue to have downside pressure on the crude market, mainly because of this massive oversupply, as demand continues to be at very low levels due to COVID-19. We've already seen signs of that with a very large decline in the June contract overnight, as people were rolling into it.
We've seen what happened to the previous contract. We are seeing I think $15 right now. And you know, when it started yesterday, it was around $21. So yes, there is a danger. Though at this point, we don't think there's going to be that type of pressure as we've seen last time around.
- What does yesterday's volatile session tell you about sort of the supply, demand issues that are facing the sector right now?
- Well, it certainly tells us that we are very, very much oversupplied and that any supply declines that the market was hoping were going to stabilize the market are not sufficient. So in essence, we continue to worry that we will accumulate inventory to the point where we run out of space and then in that scenario, you will need very, very low prices to incentivize producers to shut-in production as quickly as possible. And I think yesterday's session certainly is convincing a lot of people that they have to cut supply very, very quickly. When you are paying negative prices or you're getting very little for what you produce, your cash flows become strained, and you have to act very quickly to rebalance this market.
- And Bart, I want to touch on US policy because we're hearing that there's potentially a US policy response in the way of subsidies or tariffs. How does that work?
- Well, there's several things that have been proposed in the United States. Most recently, the President of the United States asked the Secretary of Energy to think of proposals to try to stabilize the industry. While we want supply and demand to rebalance, we don't want the rebalancing to be due to insolvency, where a lot of companies go out of business just because they run out of cash. It should be an orderly decline, as opposed to a crisis-driven decline.
We're also hearing from Texas, the Commissioner of Railroads, who is in charge of regulating the oil industry in that state, that perhaps there will be some sort of an initiative to have OPEC type of quotas imposed on US producers as well. So several things are done from a regulatory and policy perspective to try to balance this market.
- Of course, the big question is, what impact will all of this have on the Canadian energy sector and companies?
- Well, Canadian sector and Canadian companies certainly have been seeing very, very negative supply, demand conditions for our product. They have been stressed as much as anybody else. I would argue even more. And they, too, need some sort of a policy that will help stabilize their cash flow so their liquidity problems don't turn to insolvency problems and we don't have much mass shattering in an undisciplined way where things are left un-tidied up and the industry is destroyed. So it's a serious problem in Canada, as well it is in the United States. And I think it's one of those few times where governments can help to provide liquidity and funds to get us over the rough patches.
- Bart, we've got about 30 seconds left, but I wanted to touch on the OPEC, Russia agreement recently where they cut production. But it seems to have very little impact on prices. Why is that?
- Well, while the OPEC Plus agreement, which included Russia and Saudi Arabia, has been a historic agreement, promising to cut the most we have ever seen, some 9.7 million barrels per day. But given the size and the speed of the demand collapse because of COVID-19 around the world, we estimate for April probably it is down 25 million barrels. It's simply too little too late to have a meaningful impact in the near term.
Over the longer term, it certainly will help to rebalance the market, as will declines in Canada, United States, Brazil, and other countries. But for now, the demand has been so sudden and so sharp, the drop has been, that even historically high promise to shut-in production is simply not enough in the short term.
- All right, thanks very much for your insights.
- Thank you.
ANTHONY OKOLIE: And thank you for joining us. My name is Anthony Okolie. Please join us again soon, and stay safe.
[MUSIC PLAYING]
The price of US crude has continued to slide today after the May futures contract fell below zero for the first time in history over concerns about falling demand and a lack of storage capacity. The first post-COVID-19 quarterly earnings season continues to roll out. Canadian miner Teck Resources reported a much bigger than expected 84% plunge in quarterly profit, as production of steel-making coal was hit by the coronavirus-led lockdowns.
And in the US, Coca-Cola reported better-than-expected earnings but said the closure of movie theaters, restaurants, and stadiums from the coronavirus continues to hurt its business. And finally, in economic news, Statistics Canada says retail sales edged up a modest 0.3% in February, which would be prior to the COVID-19 pandemic lockdown. Looking ahead to March, TD Economics expects only the food and beverage sector to report any real gains. And that's a wrap of today's market news. As promised, my conversation with Bart Melek.
Bart, for the first time in history, that price of oil contracts fell below zero to as low as minus $38 US a barrel. Why is this happening?
- Well, fundamentally, it's lack of demand and oversupply, but there are some technical reasons for this as well that I think have a lot to do with what we've seen yesterday with that historic move towards negative pricing. What we've seen is we've seen quite a robust position taken by ETFs who can't typically take delivery of crude. And as the contract started to move to maturity and a lot of players didn't roll it in time, they waited for the last minute. And in a rush, they had to basically roll the contract and make sure that the crude goes somewhere, at least some of them.
And the spot where this contract is linked to, which is Cushing, was not necessarily reaching physical limits, but most of the storage capacity has been contracted. So therefore, arrangements had to be made for some holders of crude to ship this material somewhere else and certainly convince somebody to take on the current material and we had to see the roll. We still face a danger that this could happen again this month.
- And as you mentioned, that was for the May contract, which expires today. And my next question was can we see this for June, July, possibly August contract?
- It's not our base case, but we certainly believe that we will continue to have downside pressure on the crude market, mainly because of this massive oversupply, as demand continues to be at very low levels due to COVID-19. We've already seen signs of that with a very large decline in the June contract overnight, as people were rolling into it.
We've seen what happened to the previous contract. We are seeing I think $15 right now. And you know, when it started yesterday, it was around $21. So yes, there is a danger. Though at this point, we don't think there's going to be that type of pressure as we've seen last time around.
- What does yesterday's volatile session tell you about sort of the supply, demand issues that are facing the sector right now?
- Well, it certainly tells us that we are very, very much oversupplied and that any supply declines that the market was hoping were going to stabilize the market are not sufficient. So in essence, we continue to worry that we will accumulate inventory to the point where we run out of space and then in that scenario, you will need very, very low prices to incentivize producers to shut-in production as quickly as possible. And I think yesterday's session certainly is convincing a lot of people that they have to cut supply very, very quickly. When you are paying negative prices or you're getting very little for what you produce, your cash flows become strained, and you have to act very quickly to rebalance this market.
- And Bart, I want to touch on US policy because we're hearing that there's potentially a US policy response in the way of subsidies or tariffs. How does that work?
- Well, there's several things that have been proposed in the United States. Most recently, the President of the United States asked the Secretary of Energy to think of proposals to try to stabilize the industry. While we want supply and demand to rebalance, we don't want the rebalancing to be due to insolvency, where a lot of companies go out of business just because they run out of cash. It should be an orderly decline, as opposed to a crisis-driven decline.
We're also hearing from Texas, the Commissioner of Railroads, who is in charge of regulating the oil industry in that state, that perhaps there will be some sort of an initiative to have OPEC type of quotas imposed on US producers as well. So several things are done from a regulatory and policy perspective to try to balance this market.
- Of course, the big question is, what impact will all of this have on the Canadian energy sector and companies?
- Well, Canadian sector and Canadian companies certainly have been seeing very, very negative supply, demand conditions for our product. They have been stressed as much as anybody else. I would argue even more. And they, too, need some sort of a policy that will help stabilize their cash flow so their liquidity problems don't turn to insolvency problems and we don't have much mass shattering in an undisciplined way where things are left un-tidied up and the industry is destroyed. So it's a serious problem in Canada, as well it is in the United States. And I think it's one of those few times where governments can help to provide liquidity and funds to get us over the rough patches.
- Bart, we've got about 30 seconds left, but I wanted to touch on the OPEC, Russia agreement recently where they cut production. But it seems to have very little impact on prices. Why is that?
- Well, while the OPEC Plus agreement, which included Russia and Saudi Arabia, has been a historic agreement, promising to cut the most we have ever seen, some 9.7 million barrels per day. But given the size and the speed of the demand collapse because of COVID-19 around the world, we estimate for April probably it is down 25 million barrels. It's simply too little too late to have a meaningful impact in the near term.
Over the longer term, it certainly will help to rebalance the market, as will declines in Canada, United States, Brazil, and other countries. But for now, the demand has been so sudden and so sharp, the drop has been, that even historically high promise to shut-in production is simply not enough in the short term.
- All right, thanks very much for your insights.
- Thank you.
ANTHONY OKOLIE: And thank you for joining us. My name is Anthony Okolie. Please join us again soon, and stay safe.
[MUSIC PLAYING]
