HOUSTON – The coronavirus pandemic has caused oil demand to drop so rapidly that the world is running out of room to store barrels. At the same time, Russia and Saudi Arabia flooded the world with excess supply.
That double black swan has caused oil prices to collapse to levels that make it impossible for U.S. shale oil companies to make money. U.S. crude for May delivery turned negative on Monday — something that has never happened since NYMEX oil futures began trading in 1983. It was easily the oil market’s worst day on record.
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Here are answers to some key questions:
What happened on Monday and why?
US oil prices plunged, falling below $0 Monday to $-37.63 a barrel. That’s the lowest level since NYMEX opened oil futures trading in 1983.
The sell-off can be attributed in part to market mechanics. The May futures contract for West Texas Intermediate (WTI), the U.S. benchmark, is about to expire. Most investors are already focusing on the June contract, thinning out trading volume and feeding volatility, UBS analyst Giovanni Staunovo said.
The June futures contract for WTI is trading around $22 per barrel, but that's still sharply lower on the day. Brent crude futures, the global benchmark, fell 8% Monday to $25.81 per barrel.
The extreme pressure on the WTI contract for May highlights ongoing concerns about the supply and demand dynamics plaguing the oil market.
"No one in America wants oil in the short term," Jeffrey Halley of Oanda told clients on Monday.
Saudi Arabia, Russia and other producers tried to prop up prices with a deal last week to slash production by 9.7 million barrels per day in May and June, the deepest cut ever negotiated. But that isn’t expected to soak up the supply glut caused by evaporating demand for energy.
Is this the most disappointing earnings season since 1998?
Following the major American banks, Coca-Cola, Netflix, Delta, IBM and Intel are among the big U.S. companies scheduled to report earnings this week.
First up is IBM, which is on deck Monday after U.S. markets close.
Fewer than 10% of S&P 500 companies have reported results for the January to March period to date. So far, they’ve “generally disappointed relative to tepid expectations,” according to David Kostin, chief U.S. equity strategist at Goldman Sachs. The investment bank calculates that 43% of companies have missed Wall Street’s predictions, on pace for the highest rate since at least 1998.
FactSet analyst John Butters predicts that S&P 500 earnings dropped 14.5% in the first quarter. That would mark the largest year-over-year decline for the index since the third quarter of 2009.
Watch this space: Much of the attention will be on expectations for full-year earnings, as investors try to assess how the coronavirus pandemic will hit businesses over a longer period. But Kostin notes that most strategists have written off 2020 entirely and are already looking ahead to 2021.
Will companies not survive the downturn?
The record low in the May contract comes on very thin trading volume ahead of Tuesday’s expiration. That’s because there are concerns that there will be no room to store those barrels delivered in May. The June contract, however, only dropped around 10% to $22 a barrel. And Brent crude, the world benchmark, fell just 5% to $26.50 a barrel.
Still, oil contracts roll over each month and they don't crash to record lows.
“There will be a lot of companies that don’t survive this downturn,” said Ryan Fitzmaurice, an energy strategist at Rabobank. “This is one of the worst on record.”
How much value have oil companies lost?
Signs of stress abound in the oil patch. The S&P 500′s energy sector has lost more than 40% of its value this year — despite the dramatic rebound in the overall stock market over the past month.
Noble Energy, Halliburton, Marathon Oil and Occidental have all lost more than two-thirds of their value. Even Dow member ExxonMobil is down 38%.
Whiting Petroleum became the first domino to fall when the former shale star filed for Chapter 11 protection on April 2. But it certainly won't be the last.
Rystad's $20 scenario predicts more than $70 billion of oil company debt will get reorganized in bankruptcy, followed by $177 billion in 2021. And that only accounts for exploration and production companies, not the servicing industry that provides the tools and manpower to drillers.
What will the key be for oil companies?
The key will be how long oil prices stay dirt cheap. A rapid rebound in prices could allow many oil companies to avoid bankruptcy.
Buddy Clark, co-chair of the energy practice at Houston law firm Haynes and Boone, said his firm is "extremely busy" working on potential oil bankruptcies. Haynes and Boone has been forced to pull lawyers from other areas of the firm to work on the oil problem.
"I don't think I've seen anything like it in my lifetime. It's unprecedented," said Clark, who started working in the industry in 1982.
Clark thinks that despite the further collapse in prices, there will still be only — “only” — 100 oil bankruptcies in 2020.
“It’s hard to believe that 100 bankruptcies is the optimistic view. That just shows you where we are,” Clark said.
Are liquidations on the way?
There would probably be more bankruptcies already if it weren't for the extreme volatility in oil prices. Clark said companies are having trouble drawing up restructuring plans because they don't know what the price of the commodity will be.
"Ironically, the lower price has slowed down the process," Clark said. "A number of companies may have teed up filings but they need to go back to the drawing board."
The dire outlook in the oil industry will make it very difficult for companies attempting to reorganize in Chapter 11 proceedings to get the required financing and support. Debtholders who would normally swap their debt for equity may not want that equity.
That means, unlike the 2014-2016 crash, some oil companies may not survive altogether.
“Chapter 11 requires financial sponsors to back you. You may see more Chapter 7 liquidations,” said Reid Morrison, U.S. energy leader at PwC.
The nightmare scenario could present lucrative buying opportunities for the industry’s biggest players. That’s because struggling oil companies, either in bankruptcy or before it, will be forced to sell off prime acreage — at fire sale prices. Exxon and Chevron, the industry’s supermajors, could be tempted to make acquisitions.
Who could consider bankruptcy next?
The oil crash has set off a guessing game about which companies will be next to succumb to bankruptcy. The most vulnerable companies are the ones that piled on too much debt, face looming debt maturities and can't generate cash flow to even make their interest payments.
Rystad's Abramov said "no one would be surprised" if Chesapeake Energy and Oasis Petroleum were forced to consider bankruptcy.
Chesapeake recently suspended dividend payments on preferred stock. Its stock price crashed so low that it turned to a one-for-200 reverse stock split to comply with exchange requirements.
Shale driller Oasis has lost more than 90% of its value this year. Its stock is trading below 30 cents.
Although American frackers rebounded from the 2014-2016 oil crash, there are concerns the shale industry could be permanently scarred.
Investors were already tired of the industry’s horrible returns following years of excessive spending and oversupply. And that was before the great oil crash of 2020.
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