The once-in-a-century pandemic caused oil demand to collapse at an unfathomable pace. Supply swelled as Saudi Arabia and Russia engaged in a price war at the worst possible moment.
That toxic backdrop drove oil prices below zero — well below, in fact — for the first time in history. US crude finished April 20, 2020, at minus-$37 a barrel, blowing past the zero mark that few imagined would ever be crossed. Negative oil is the equivalent of getting paid by your local Starbucks to take coffee off its hands.
“It was a dark and really scary time,” said Regina Mayor, KPMG’s global head of energy. “Nobody was driving. Everyone was hunkered down at their homes. We were all fighting over toilet paper.”
Flash forward 12 months and US oil prices stand at $63 a barrel — exactly $100 above that record low from last April.
The swift rebound in the oil patch is yet more evidence of the world economy recovering from the health crisis. Demand for energy is rising as people take road trips, hop on planes and return to work. National average gasoline prices are within striking distance of $3 a gallon.
80% of the overhang is gone
The epic supply glut at the heart of negative oil is all but gone.
Oil inventories in developed economies spiked to a record 3.2 billion barrels in August, according to the International Energy Agency. That was a whopping 256 million barrels above the five-year average.
The surplus shrank to just 28 million barrels by February, according to the latest IEA figures. That means about 80% of the overhang is now gone.
“We built an iceberg of global inventories because of the historic demand destruction,” said Michael Tran, RBC’s director of global energy strategy. “Now, inventories are essentially back to normal. We’ve erased that buffer from the oil market.”
The US glut is also improving. Last week, for the first time since the pandemic erupted in March, weekly US oil inventories were down year-over-year, according to Mizuho Securities.
The amount of global floating storage — tanker vessels that are stockpiling barrels — is down to 76 million barrels, the lowest since the pandemic began, according to ClipperData. That’s a sharp decline from the peak of 200 million barrels last summer.
Restraint from OPEC+ and US shale
The progress in shrinking the supply overhang shows the massive production cuts from leading oil players are working.
Market forces caused US oil companies to slash production. After hitting a record of 12.9 million barrels per day in November 2019, US oil output crashed to just 10 million barrels per day last May.
More importantly, OPEC+ agreed to record production cuts of nearly 10 million barrels per day. And most of those emergency cuts remain in place, giving the oil market time to heal and work off the surplus.
The restraint shown by OPEC+ is in stark contrast to the acrimony of a year ago. Instead of taking barrels off the market, Russia and Saudi Arabia piled on production last March and April despite the collapsing economy.
“Russia and the Saudis were in a battle royale to see who could damage the market the most,” said Robert Yawger, director of energy futures at Mizuho Securities.
‘Nobody wanted to buy’
That excess supply combined with imploding demand to set the stage for subzero oil prices.
“It was just a jaw-dropping day,” said RBC’s Tran. “The degree of bearish sentiment was unlike anything I had ever seen. The overwhelming majority of oil market participants did not think we could ever get to a negative print.”
Bjornar Tonhaugen, head of oil markets at Rystad Energy, recalls the fear in the oil market that day as market players realized they wouldn’t be able to sell barrels they had no intention of accepting delivery of.
“Panic took over,” Tonhaugen wrote in a recent report. “Nobody wanted to buy.”
Although the entire industry was hurt by crashing prices, analysts say it was speculators (think: hedge funds and other short-term investors) who suffered the most from subzero oil because they didn’t have the ability to store unwanted barrels.
“Anyone who could take physical barrels, my clients that have tanker ships and storage tanks, they all made money off the back of it,” said KPMG’s Mayor.
Yawger, a three-decade veteran of energy trading, described that day as a “psychotic moment” that shows how unrelenting oil market volatility can be.
“It can sneak up on you and bite you on the butt if you don’t know what you’re doing,” Yawger said.
How high will prices go?
The next leg of the oil market recovery will be decided by two major factors: producer restraint and vaccines.
Analysts expect major producers, especially OPEC+, to only gradually add back output out of fear of disrupting the rally. They could act more quickly in response to supply shortages.
Demand for oil is still muted in Europe, where the rocky rollout of vaccines and the spread of Covid variants are causing real problems.
Mobility in many European countries is still down 20% to 40% below January 2020 levels, according to a report published Monday by the International Energy Forum.
But the picture is much brighter in the United States, where half of all adults have now been vaccinated. US mobility was down by just 12% at the end of March and oil bulls are betting that trend will accelerate in the coming months.
“This summer there will be a complete unleashing of the vaccinated American public after being confined at home for a year,” said RBC’s Tran. “A year ago, the oil market saw the darkest day in its history. Today, the outlook could not be more diametrically different.”