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Novice Investors Are About to Get a Crude Lesson in Oil Speculation as Global Producers Continue Mexican Standoff

Several oil tankers visible from Signal Hill sit idly off the Long Beach shoreline on Friday, Apr. 24, 2020. PHOTO: Long Beach Press Telegram/Howard Freshman

Mexican Standoff definition: A confrontation in which no strategy exists that allows any party to achieve victory. Any party initiating aggression might trigger their own demise. At the same time, the parties are unable to extricate themselves from the situation without suffering a loss. (Wikipedia)

One of the consequences of the scamdemic is an astonishing drop off in energy demand.

At the same time, because of the debt bubble built around the domestic fracking industry, oil and gas producers have been forced to generate whatever revenue they can, even at a loss to their all-in costs or cash costs. And although well capacity can be reduced down to about 60%, any further flow reduction can damage a well. Capping a well is an expensive proposition, and so is uncapping wells.

Incredibly, the U.S. Energy Information Administration oil production estimate for the week of April 24 — five weeks after states began shutting down — was 12.2 million barrels of oil per day (bpd), which was the peak production level during 2019. Net imports were 4.9 million barrels, and exports trickled off to 2.9 million barrels a day. U.S. refiners cut crude processing to 12.5 million bpd.

There is about 1.9 million bpd of excess production at the moment.

Global oil demand generally averages about 100 million barrels per day, but the scamdemic is estimated to have cut that by around 30%, or 30 million barrels, to 70 million.

The overproduction relative to reduced demand has been so excessive that analysts expect the market to utilize all global storage capacity by mid to late May. At that point, there will be no place for actual extra physical oil to go.

Oil storage has become expensive. The Trade press reports high on-land storage costs, high rates for crude oil maritime shipping (which can be used as an alternative to on-shore storage), and high levels of contango (when near-term futures prices are lower than longer-dated ones) all reflect an increase in storage costs since early March 2020.

The Maritime Executive explains strange sight of 27 foreign oil tankers off the coast of southern California:

When including additional vessels in the San Francisco area, Bloomberg estimates that the idle tankers off California’s coastline contain as much as 20 million barrels of petroleum, an amount roughly equal to the (pre-coronavirus) daily demand of the entire United States. Tanker tracking firm Kpler SAS suggests that most of them have been stationary for more than a week. …

The same pattern may be found at many other large anchorages around the world. According to data from analytics firm Vortexa, an estimated 114-150 million barrels of crude oil are in storage at sea worldwide. Nearly 70 million barrels of oil products — diesel, gasoline, jet fuel and other refined petroleum — are also currently stored aboard clean tankers around the globe, the company assesses.

Small speculators using platforms like Robin Hood have piled into the USO exchange-traded fund, which in turn goes into nearby oil futures. Normally, this is a paper trade, but now producers are using this hyped vehicle to physically deliver the oil. However, neither USO nor anyone else will have the space to store oil anytime soon.

USO is the Old Maid card holder in this show down. Thus, not only can USO go to zero, but oil is likely to trade at negative prices in the expiring contracts. So once again, “somebody” will eat that “unexpected” loss.

The possible costs involved with the failure to accept physical delivery could include a combination of direct monetary penalties, reputation consequences, the liquidation of the collateral deposited by the client in the margin account with the FCM, the revocation of trading privileges, and the costs of any legal settlements resulting from the breach of contractual obligations. There is no good solution.

As this USO fund and similar vehicles blow up, the artificial speculative demand will immediately evaporate. When storage has reached max capacity, wells will need to be capped until supply reaches an equilibrium with demand.

Buddy Clark, co-chair of an energy practice at Houston law firm Haynes & Boone, noted, “It’s hard to believe that 100 bankruptcies is the optimistic view. That just shows you where we are,” adding, “I don’t think I’ve seen anything like it in my lifetime. It’s unprecedented.”

Even in the unlikely event that lock downs end across the U.S. in May, demand will not recover sufficiently to cover anything close to current supply. Consumers have little intention of going back to pre-Covid behaviors, and Wave 2.0 lurks.

About the only scenario that might save U.S. domestic supply is to “arrange” to choke off the Strait of Hormez or nearby pipelines and deliver the pain to Saudis and Middle East producers.

7 Comments on Novice Investors Are About to Get a Crude Lesson in Oil Speculation as Global Producers Continue Mexican Standoff

  1. No reason to speculate on the fixed markets unless you’re in the club. I reckon a lot of states will open in may, there’s a few open already, and protests are happening in pretty much every locked down state. What happens then? People try to return to normal and instead get the syndicate nlp “new normal”- 30-50% of small businesses gone never to return, with product shortages commonplace and ever increasing… The government is just owned by the banks at this point- for 108 years now, gubmint is just a ruse to fool the people. For example, who administers funding for each state’s welfare systems? Big banks do. What about the PPP thing that’s supposed to help small businesses through this manufactured crisis? Big banks again. I could go on and on. So what is the government function? If you went by recent history, it’s only functions are to wage war, restrict freedom, and take people’s taxes and give them to big banks and companies that get into trouble because of their own bad practices. Capitalist systems let badly managed businesses die, they don’t bailout. I will also say this about the PPP bullshit- I’ve talked to multiple small business owners who have said that they got their applications in ASAP (one said he submitted his paperwork 5 minutes after the program went live), and NONE of them have heard back from the big banks that are running it. But shake shack in nyc gets 10 million immediately without asking? Read the tea leaves already… No country/government will operate equitably to their people as long as they continually abdicate their main responsibility to the for profit international usurers. People and countries that pay interest remain poor forever, it’s designed that way… The borrower is the slave of the lender.

  2. I think it’s fair to say that most investors do not understand the mechanics (“financial engineering”) behind many of the ETF products they “invest” in.

    But I also think maintaining the “wealth effect” (should be wealth illusion) via high stock prices is a major pablum to a significant segment of the population, and therefore important to the Establishment, since it keeps that segment quiescent — so I’m sure there is some effort behind the scenes to make sure the financial fallout is controlled for maximum advantage.

    The globalists already wrote off the more forlorn parts of the country they betrayed for decades with “free trade” — too many of those people have sunk into despair and/or obesity and/or opioid addiction for a seething mass to develop.

  3. I wouldn’t be surprised if an accident and oil spill ensues because of this…. I guess social distancing doesn’t apply to oil tankers… So the poll graphic above explains how many pajama people are living in the states.. Roughly 70-85%, seems about right.

  4. Another piece of the collapse pie that no one is aware of. Thanks again Russ for bringing this to light.

  5. Buying Government Stocks is always a bad idea if you don’t get the memos.

    “The US president invoked the Defense Production Act — a Korean war-era law that permits the government to compel companies to take action for national security reasons — after a spate of recent outbreaks at processing facilities raised concerns about serious food shortages.”

    https://www.ft.com/content/2c7e1a34-2cd7-4b80-ae2d-a8549f565423

    What we are witnessing is a complete takeover of the economy which will likely include price controls and supply controls.

    In the context of 6 trillion dollars, these disruptions become very useful in sopping up assets for pennies on the dollar

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