If the current state of the oil markets—caused by a drop in world oil demand and Saudi plans to increase production—persists amid a recession, markets could see the most extreme global oil supply surplus ever recorded, according to IHS Markit.
“Counting barrels is challenging enough under normal circumstances, but the looming imbalance on current trajectory between demand and supply is so large now that it is well beyond any typical margin of error or uncertainty about data.”
IHS Markit estimates that the global oil supply surplus on a monthly basis—the amount of global oil production in excess of demand—could range from 4-10 million b/d from February to May. Demand in March and April could be down as much as 10 million b/d.
This estimated surplus translates into an inventory build of about 800 million bbl to 1.3 billion bbl in the first 6 months of 2020. The higher end of the range foreshadows the impact of increasing travel restrictions, reduced commuting, and the likelihood of a severe global economic slowdown continuing in the second quarter. For context, up until now, the largest half-year global surplus since 2000 was in first-half 2015, when it was a cumulative 352 million bbl.
The primary driver of the surplus is the sharp, severe drop in world oil (liquids) demand, which in this year’s first quarter will be at least 4 million b/d below the year earlier level. Oil price weakness is exacerbated by Saudi Arabia’s decision to increase oil supply by 2.6 million b/d relative to February levels. Russia said that it can increase production by 300,000–500,000 b/d.
The quick reaction of US oil producers and the high decline rates of tight oil wells mean that the largest 2020–21 impact on production volumes at low prices will be in the US. US crude oil production, if and when new tight oil drilling stops, could fall by 2-4 million b/d over 18 months. The spread of COVID-19 and related movement restrictions raise the question as to whether oil production and supply chains will be impacted owing to lack of workers in key producing areas around the world.
“The last time that there was a global surplus of this magnitude was never. Prior to this the largest 6-month global surplus this century was 360 million bbl. What is coming will be twice that or more,” said Jim Burkhard, vice president and head of oil markets, IHS Markit.
According to IHS, three potential oil market scenarios going forward include:
Truce and eventual demand recovery: A “supply truce” emerges involving Saudi Arabia and Russia that leads to some production restraint, but output remains above early 2020 levels. World oil demand growth returns by the third quarter with prices in the $40-50/bbl range.
Prolonged demand decline, no supply restraint: An unprecedented billion-bbl supply surplus emerges as global demand falls by 5 million b/d for the year. Prices fall to the lowest levels in a generation when the surplus is at its peak. US production begins a steep decline.
Rapid recovery and reconciliation: The world economy and oil demand are in recovery mode by mid-year. Oil prices are buoyed by the restoration of Vienna Alliance (OPEC plus Russia) production restraint.
