The Daily Dose: W-shaped rebound

-Expect a W-shaped recovery in oil markets

-The quarantine economy pushed US production back two years

Market forces are curbing US shale output, supporting a rally in crude oil prices that’s extended for most of the month. OPEC+ restraint remains firm, though new production curtailments are not even a month old. Demand, meanwhile, is starting to return as many of the world’s leading economies return from a pandemic slumber. Consumer, and likely jet fuel, demand is on the rise as economic openings lead to more road and air travel. The rally in crude oil could easily backfire though as producers compete for market share lost to the coronavirus.

Brent crude oil notched a two-month high on Monday on a return to normal in China and increased road travel in the United States. Fuel demand in India is also on the rise, though Cyclone Amphan could force the economy to revert to closure. Ahead of the expiration of the June contract, Brent was up 0.4% at 8 a.m. ET to trade at $34.94 per barrel.

The US Energy Information Administration reported that production from the country’s seven shale basins could decline by as much as 197,000 barrels per day next month to 7.82 million bpd, the lowest level since August 2018. Bakken production in North Dakota is expected to fall by 21,000 bpd and the state’s energy regulator reported Tuesday that active rigs in the play totaled 14, down nearly 80% from one year ago. Permian production is expected to dip by 87,000 bpd next month. Permian drilled but uncompleted wells, those left unfinished until market conditions improve, increased by 28 last month, the fastest of any of the US shale basins. Legacy oil production in the Permian likely won’t return to pre-quarantine levels anytime soon. Some players in the US shale patch spent much of March and April pleading for ration cards to stem the financial bleeding from extraordinarily low oil prices, though the market resolved the crisis without the need for artificial constraint.

Market forces not only have the solution to low oil prices, but higher prices as well. Brent crude oil was priced around $70 per barrel the last time US oil production charted as low as the EIA expects next month. OPEC+ was in its second year of production restraint, with Saudi production falling from an average of 10.3 million bpd in 2018 to 9.8 million bpd in the first quarter of 2020. Demand destruction from the coronavirus pandemic and a price war between Saudi Arabia and Russia pushed crude oil prices sharply lower, into negative territory for West Texas Intermediate, as storage levels reached the brim. A new deal so far among OPEC+ is holding, but market volatility can be expected if the rally runs hot enough to incentive legacy cheaters such as Iraq and Russia. Nigeria has yet to report a drop in exports and the resilience of a UN-backed government in Libya could mean a rebound in North Africa’s largest producer. A too-hot rally could also crimp demand as recessionary strains limit economic activity. Only 10% of the 194 respondents to a Bank of America survey expect a V-shaped recovery, with most anticipating a U- or W-shaped rebound in economic activity. A “second wave” of coronavirus infections stemming from a too-much, too-soon economic reopening was seen as the greatest threat to the markets, among those surveyed. And so it is with oil. A “second wave” of a surplus from producers competing for market share could push oil prices back into depression in W-shaped fashion.


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