On Monday, 4/6/2020, the DOW again rose by over +1600 points. Interesting that should happen when we are in the lowest sales point of the crisis brought on by the pandemic and oil..
On the same day, OPEC and OPEC+ were originally scheduled to hold a meeting, which was delayed over the weekend by Saudi Arabia. The meeting is now expected to be held on Thursday this week.
However, that meeting is no reason for an increase in the stock market. In fact, it would be reason for a further decline in the market. As of now, it is expected that Saudi Arabia and other OPEC/OPEC+ states will agree to reduce production by a cumulative total of 10 million barrels per day (bpd). Russia has agreed to reduce production by 1 million bpd on one condition- that the US also decrease production.
There are a number of points regarding this to consider. Trump made a statement agreeing to reduce oil production. Russia’s oil industry is state-owned and managed, so when the Russian government agrees to reduce production, they can make that commitment. The same is true with Saudi Arabia, Bahrain and nearly every member state of OPEC/OPEC+. The reverse is true of the US. The oil industry in the US is owned and run by corporations. While the president can request that they reduce production, without legislation regulating the oil industry, he cannot order them to reduce production. So any promise he may make to other world leaders means nothing in this regard.
The US shale oil industry has been incurring massive debt while oil demand has been reduced. In addition to massive loans, the US government agreed to buy at least 700 million barrels of oil for the national reserve in an effort to further subsidize the oil industry on top of hundreds of billions already spent subsidizing that industry every single year. This effort will not increase demand and will be short-lived.
No matter what, the agreed total reduction of all producers of 10 million bpd still falls well short of the global reduction in demand of roughly 25 million bpd. Which means that production will remain 15 million bpd over demand for some months to come, so oil prices will be depressed below the break-even point during that time.
When an oil production increase or decrease is agreed upon, that increase or decrease does not happen immediately. It takes anywhere from 6–10 months before that adjustment reaches the market. That’s one reason oil is traded in futures but that subject is for another time, being too complex to cover here.
There is discussion of oil storage reaching capacity globally. It may be coming somewhat close but at current production it is estimated that it would take until at least November for that to happen. Though, with the lag between adjustment it could mean capacity could be reached by that time. If or when that occurs, there will be no choice other than oil production to come to a complete and abrupt screeching halt.
Another problem involved is that Saudi Arabia had actually increased production in March by 12 million bpd. So, if they agree to a reduction of 6 million bpd, they will still be producing 6 million bpd over the level produced in February. Russia agreed to a reduction of 1 million bpd. That leaves a total of only 3 million bpd reduction for all other sources combined to reach an expected 10 million bpd reduction.
Subsidies. The Saudi government is massively subsidizing their oil industry in an attempt to retain market share. The US government is subsidizing the domestic oil industry in an attempt to retain market dominance. In the case of the Saudis, the subsidies are eating at their national economic reserves. In the case of the US, it is increasing the national debt substantially. Not for the benefit of the people but for the benefit of a few corporations and their primarily affluent investors.
Unsustainable. I have previously mentioned the fact that the price of gas and oil in the US would be substantially higher if the oil industry were not so heavily subsidized by the government. That was well before this crisis ever occurred. With the additional subsidies and loans introduced into the scenario, what was already unsustainable has become completely unrealistic at any level. In the next few months, we can expect smaller oil producers to fail and close operations. Larger producers will be forced to curtail production and cease operations of lesser producing fields. Normally, larger producers would buy up smaller producers at bargain basement prices. Right now that may not happen for some time because they will be forced to use their liquidity to pay on loans, bonds and stock dividends.
Translation. What all of this means is that US producers will at some point in the near future be forced to reduce production. Even when this crisis ends, there will be less demand for oil and gas because so many industries will have seen business closures and mass layoffs. They will not be able to simply resume operations at capacity. Capacity will be lower. Consumer spending will be much lower because of debts incurred during the crisis coming due. Worker incomes will be reduced, causing further reduced consumer spending. All of this probably means the end of the US as the dominant oil producer globally.
Similarities. Much of the same regarding unsustainability is true of the stock market. We see rises in the stock market when the Fed announces interest rate reductions and when Congress announces a bailout, then again when they receive the bailout money. Typically those increases last for one day at most, then the market declines again. No new jobs are being created at this time. Consumer sales continue to be down and declining further. More layoffs and “furloughs” are being announced daily. The clear indication is that the funding from all sources is being used again to repurchase stocks and increase their prices. Plus the Federal Reserve is buying bonds. The bonds being issued equal corporate debt, which are nothing more than additional loans being used for stock repurchasing. In the long term, all the debts will come due and the bailouts will be forced to come to an end. This will extend and deeply exacerbate the depression of the stock market, ultimately leading to bankruptcies and failures.
This entire scenario has been constructed and intensified by intentionally poorly constructed stimulus programs going back over a decade and now multiplied exponentially. None of it can be sustained and will lead to a worsening of the financial crisis long after the pandemic has ended. Recovery will take years, possibly decades as the general population never truly recovered from the 2008 financial crisis. It is highly unlikely the stock market will ever reach the numbers seen in the last two years. Even as other countries recover slowly, the US will remain economically depressed due to crushing personal and corporate debt, mass job eliminations and the devaluation of the dollar causing hyperinflation.
This is not meant to sound hopeless. In particular ways there are positives to this. I will go into that in a different article and video later this week.