So, what might the long road to recovery look like?A new report by the IHS Markit Energy Advisory Service maps a long-term path — marked by three distinct phases — that will mark the trajectory of oil market fundamentals and prices over the next two years.
“It may be hard to comprehend now. But barring a second wave of the pandemic, nearly all pre-Covid demand could return by the second half of 2021. If that transpires, it could even lead to a market squeeze in the medium-term as supply destruction hinders the ability of supply to keep up with recovering demand,” said Roger Diwan, vice president, financial services, IHS Markit.”“But make no mistake, the road to oil price recovery will likely be choppy and plagued with stop-and-go rallies and selling cycles until some level of certainty is restored.”
IHS Markit three phases of oil markets recovery
The crash correction (second quarter 2020): the balancing process is well underway – shut-ins of supply, managed, or unmanaged, have started to materialise in April and May, and 13-15MMb/d of crude production will likely be removed from the supply stack in the next two months while demand is showing some improvement from the abyss it reached in the second week of April. The massive inventory overhang amassed onshore and offshore over the past few months will weigh heavily on markets and will not register material declines until late June, or July.
Structural recovery (second half 2021): Demand comes back to 96-98% of pre-Covid-19 levels and the progressive de-stocking of the oil supply chain allows a large share of productive capacity on the sidelines to come back into the market. Barring a second wave of the pandemic, this recovery could start to materialise a year from now. This phase could set the stage for a market squeeze in the medium-term as supply destruction hinders the ability of supply to keep up with recovering demand.
This recovery path, should it come to pass, would create the necessary conditions for an increase in Persian Gulf and Russian production as well as a return to growth for the US shale (albeit from a much lower base).For that to happen, Russia and Saudi Arabia will have to agree on how to bring spare capacity back to the market, at what price and how to accommodate (or not) the US shale industry. Market share concerns will resurface as soon as Brent prices pass the $40/bbl mark, probably before the end of 2020. This will put OPEC+ compliance in the spotlight as the demand “enforcer” fades and logistical bottlenecks ease, leaving Saudi Arabia, its Gulf allies, and Russia once again to shoulder an increasing share of the cuts burden. How they respond will be critical. Faced with a similar trade-off in 2016, Saudi Arabia opted for short-term relief over lasting price benefits and ended up stuck in an endless loop of cuts. Will the calculus change this time around?
“Facing a demand crisis of uncertain parameters, the skew of risks is likely on the downside in the short-term should demand’s recovery underwhelm, and to the upside towards the latter part of our outlook as the physical reality of the supply destruction becomes clearer,” added Diwan.“It is important to remember that this is an unprecedented crisis. While fundamentals do point to structural improvement ahead, some of the oil market’s foundational tenets could crumble by the time the dust settles on the Covid-19 pandemic.”
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