CHICAGO — Oil prices, already pressured by eroded global demand from the coronavirus outbreak, on March 9 saw their largest one-day drop in nearly three decades. Tom Kloza, global head of energy analysis for Oil Price Information Service (OPIS), Gaithersburg, Md., described the forces behind the “unprecedented” nearly 30% decline as a “three-headed monster.”
“The biggest thing is the cat fight between the Saudis and Russia,” Kloza said. He is referring to the oil price war that erupted after Russia refused to agree to a plan by the Organization of the Petroleum Exporting Countries (OPEC) to cut oil production, a move that was aimed at supporting prices in the face of lower demand as countries fight to contain the coronavirus. Russia’s refusal was aimed at U.S. shale oil producers, who have grabbed market share over the years thanks to their lower production costs.
Saudi Arabia, to pressure Russia back to the negotiating table and grab back its own share, announced it would cut its selling price for oil by $6 to $8 per barrel. The price war escalated further after Saudi Arabia’s state-owned company, Aramco, said March 10 that it would increase its production to a record-breaking 12.3 million barrels per day (bpd) in April, Bloomberg reported. Russia responded by saying it could increase production by 500,000 bpd, to a record 11.8 million bpd.
Kloza expects the demand picture to become clearer after the U.S. Energy Information Administration releases its consumption data over the next several weeks.
The other two heads of Kloza’s “three-headed monster” of oil price declines: escalating fears over the coronavirus, and recommendations from health experts to avoid shaking hands and congregating to control the virus’ spread—also known as “social distancing.” This also includes an increase in working remotely.
“That’s one thing the c-store business never had to deal with,” said Kloza, pointing out that during the SARS epidemic of 2002, there wasn’t a social media “echo chamber” that amplified fears of contracting the virus.
Kloza said fuel retailers in areas hardest hit by the coronavirus could see attrition in their fuel volumes from declines in travel as universities and businesses close or require employees to work remotely. And there are signs that these moves are already affecting travel. In Seattle, which has one of the highest numbers of confirmed coronavirus cases, a shift to telecommuting by the area’s largest employers has increased travel speeds by 50% to 100% thanks to lightened traffic on major highways, according to an analysis by INRIX.
No Silver Linings
With the decline in oil prices, gasoline prices have started their own free fall. The national average had fallen to $2.38 per gallon as of March 9, the lowest level since February, according to AAA. Below-$2 gasoline prices in the coming days are a strong possibility for many states.
For consumers, the massive drop in oil prices—and a resulting decline in gasoline prices—are “something that’s cheered,” Kloza said. He cited a tweet from President Trump on March 9, the day of the massive oil price decline: “Good for the consumer, gasoline prices coming down!”
But in the longer term, the implications are not so rosy.
The United States will end up “losing a lot more” in terms of the hit to consumers’ 401(k) retirement accounts and stock holdings, as well as job losses in oil-producing states such as New Mexico, Texas and Colorado, Kloza said. U.S. shale oil producers are “sustainable” as long as oil prices stay above $40 to $45 per barrel, he said. As of March 10, West Texas Intermediate was trading at about $33 per barrel, showing a small recovery from the $31 low on March 9.
Typically when oil and then gasoline prices fall, fuel retailers have opportunity to pick up margin. Kloza expects that to be the case—at least in the short term.
“Today, margins are up 20 to 25 cents per gallon—that’s pretty decent with the cost vs. retail for most of 2020,” Kloza said. However, retailers may be “getting a gift that will betray you later on,” he said.
“Is this going to be a big inning that lasts or one that gives away to a rain delay? That’s part of the calculation that cheap prices will benefit c-stores,” he said. “But you have to realize … if the concept of social distancing becomes something that destroys 2%, 3%, 4%, 5% of demand, then you really received a monkey’s paw.” Kloza is referring to “The Monkey’s Paw,” a short story by W.W. Jacobs centered around a cursed mummified monkey’s paw that grants its owner three wishes—all of which end up going awry.
“Ultimately, it leads to demand destruction and margin compression down the road,” he said of the coronavirus’ still-unfolding impact. “I wouldn’t revel in the oil price collapse.”