Oil: an industry drowning in deep waters?

Sarayu Bacchu

To put it succinctly, the past few months have been disastrous for oil. Globally, the coronavirus pandemic has torn through the market, wiping out almost a third of demand for oil through several lockdowns and closed borders. But, the question arises, was this just a trailer for the main movie? In a time of heightened climate awareness, how much more time does the oil industry have left?

In the past month, oilfields have been shut down and storage tanks have filled up in record time. Of course, the highlight has been what traders have dubbed “Black Monday” - the day when US oil prices dropped below 0 for the first time. Effectively, this meant that companies were forced to pay customers to take their oil. How can this decimated industry ever recover? 

Moreover, this humongous plunge in energy demand worldwide, equivalent to the annual consumption of India, according to the IEA, has come at a time of huge supply. America itself now produces more than double the amount of oil than in 2008, and enough to meet additional annual needs of an expanding global economy. Further adding to the supply shock is the price war between Saudi Arabia and Russia, prompting the former to slash prices by as much as $8 a barrel. Shares in oil companies tanked across the world and there was a huge sell-off. In addition, Saudi Arabia heightened this further by extending supply to a record 13 million barrels per day, effectively flooding the market. This has further caused rivals, such as the UAE and Russia, to also increase production. 

Never before has such a severe demand shock been coupled with escalated supply side shocks - a certain recipe for disaster. Since these events, the price of oil has somewhat recovered, but those in the industry are still expecting the worst. American company Occidental Petroleum has cut dividend payments by almost 90%, emphasising the extent of this crisis. Moreover, several producer countries will be hit hard by this oil crash. The graph below shows the price at which a selection of countries need oil to be to balance their budgets.

Such countries need to diversify their economies and exports to survive in the long run, and this pandemic may have just accelerated this eventual process. Some executives see the potential for oil demand to peak earlier than expected, prompting a swifter shift to renewable sources. This also means companies with a strong fossil fuel focus will need to shift their model to renewable energy to remain profitable and in business.

Investors’ increased wariness towards this sector has also been motivated by the increase in popularity over ESG (ethical, social and governance) led investing. More companies need to follow in BPs footsteps - the company is unveiling a plan for a path to ‘net zero’ emissions. It is expected that BP will branch into renewables like wind and solar, as well as starting measures like CCS to offset carbon emissions from fossil fuel production. Falling costs for wind and solar projects means they are able to go ahead without the need for subsidies, providing promising and stable returns into the long-run.

Although there is strong pressure for decarbonising, economic recovery post-pandemic may favour tried and tested, cheaper fuels like oil. Furthermore, the global cooperation needed for aggressive action against climate change has not yet occurred, meaning the oil industry may still have a few more precious years.

Regardless, it is an industry whose foundations have been weakened, and amidst an ever volatile political background, it only a matter of time before the building collapses.