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Oil Prices Jump 10%, but Headwinds Remain

Oil prices rose 10% on Thursday, April 2 following a report that the US is working with Saudi Arabia and Russia to work out some agreement that would allow prices to rise. This seems to be an interesting issue for the US President. It was less than 3-months ago that Trump was calling for additional barrels to hit the market so gasoline prices would remain low. Following a 64% decline in WTI, over the past 52-weeks, US producers are now in a world of hurt, as prices have fallen well below their breakeven levels which will likely force many to close up shop unless prices can rebound.

Two Headlines that Buoyed Crude Oil

There were two headlines in early April that helped buoy crude oil prices. The first was a headline that allowed traders to have some hope that a truce in the price war between Saudi Arabia and Russia would move forward. The markets began to price in the possibility of action from the White House to mitigate the effects of last month’s sharp drop in prices.

Russian President Vladimir Putin said that oil producers should cooperate to mitigate the market decline. Additionally, President Trump is set to meet in early April with the heads of some of the largest US oil companies to discuss measures to help the industry. The chief executives of Exxon Mobil Corp. and Chevron Corp. are expected to attend.

Overproduction Comes as Demand Tumbles

The oil markets have faced a horrific 1-2 punch during the past month. Demand has been completely eroded by the spread of the coronavirus. The impact of the “shelter in place” orders around the globe has hammered oil demand. Airlines are running at about 10% of their capacity. Cruise ships are mostly idle. With Americans, Italians, Canadians, the English and several other countries having their citizens stay at home there is very little driving that takes place. The US generally uses approximately 9-million barrels of gasoline a day which was likely cut in half according to a report from the Energy Information Administration.

The decline in demand has been matched by an increase in supply which was the straw that broke the camels back. In early March, after OPEC+ was unable to come to a new agreement on output cuts, Saudi Arabia announced that it would be opening the spigots and was planning on producing at very high levels. Besides, Saudi Arabia cut prices that it was delivering to customers for April delivery. This move saw an immediate 30% cut in oil prices across the globe.

The issue stems from an agreement between Saudi Arabia and Russia that could not be reached. Russia appears to be angry that they have been asked to cut, but the US is producing at a maximum rate. In fact, according to the most recent production report, the US has only reduced output by 100K barrels in the past 4-weeks, which is just 100K barrels off the all-time high. The US has increase oil production by more than 1.1-million barrels per day over the past 12-months to from 12-million barrels to 13.1-million barrels per day.

The move by Saudi Arabia and Russia appear to be aimed at pushing US producer to shut production. The US now is the swing producer, but the US needs prices above $50 to break even. With prices near $22 per barrel, eventually, these companies will co out of business.

The Bottom Line The US rig count declined by 44-rigs in the latest week, and it will need to fall significantly for prices to begin to gain traction. Also, for oil demand to come back, the spread of the coronavirus will need to come to a halt. If Saudi Arabia and Russia can come to an agreement, prices can hove higher, and potentially reclaim $30 during the Q2.

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