FAQ's on oil price drop

The GSTT (Geological Society of T&T) has noted several questions from our members and the public concerning the oil price drop that occurred this week. We have attempted to address some of these FAQ’s. Apologies for the length but some of these topics are not easily explained in one or two lines. The responses below come from a combination of information from our Directors, published literature, MEEI data, and comments from persons like Dr Krishna Persad, Minister of Energy Franklin Khan and former Minister of Energy Kevin Ramnarine.

Feel free to add to the discussion or correct any inaccuracies you notice.

1.   Why did the oil price drop to zero and below zero on April 20th? 

On Monday April 20th, WTI futures oil price crashed spectacularly to an unprecedented negative value (-$37.63/bbl). Brent crude was down to $25.57/bbl, the first time the spread between the two has been this large ($63.20).

 Three things led to this price drop – low demand (and hence oversupply) due to Covid19, declining storage facilities for oil (resulting from low demand) and timing of future contracts.

 Due to the effect of Covid19 on global industries (airlines, cars, cruises, manufacturing etc), demand for oil is now much lower than supply, which is why oil prices have been falling over the past few weeks. Even a historic 10 million bbl/d cut in production by OPEC was not enough to balance demand and supply. As a result, producers are trying to store oil in tanks on land and in tankers at sea. This means that storage all over the world is disappearing quickly.

 When you see the WTI oil price on any given day, it isn’t for oil traded on that day but for some time in the future. April 20th was the last day to trade oil for the month of May. Traders either have to sell their shares or “futures contracts” to buyers OR physically take possession of the oil should they keep their shares. These traders dumped their shares in a firesale, just to make sure they wouldn’t have to physically take any oil in May as they anticipated very little storage left in the US by May. This drove the price to the point where they would pay buyers to take it off their hands. That is, a negative oil price.

 One of these traders is USO (United States Oil Fund) who had 25% of the shares to be sold. It is believed that their dumping of these shares instigated the firesale which led to the price drop into negative territory.

 This is not expected to occur often and hopefully is a one-off event. The WTI price has already recovered to $13.90 on April 22 – which would be for oil traded in June.

 However, oversupply and low storage means oil prices will stay low for the foreseeable future.

 2.   What is Brent and WTI? Why the big price difference between the two?

 All crude oil is not the same. They have different API gravities, sulphur content and so on. More sulphur means less valuable crude, heavier crude is also less valuable.

 West Texas Intermediate is a light and sweet (low sulphur) crude oil and is the main oil benchmark for North America. The major delivery and pricing point for this oil is Cushing, a landlocked location in Oklahoma. Cushing has 90 million barrels of storage (13% of US storage).

 The Brent blend is the most widely used benchmark (two thirds of the world). It is a light and sweet crude that comes from North Sea fields.

 One example of the variance - Before 2010, the two blends used to be very close in price to each other. In 2011, Iran threatened to close the Straits of Hormuz, where about 20% of the world’s oil flows each day. This made Brent crude trade at a premium as its supply was in danger.

 One major reason for the price difference between the two blends on April 20th is that Brent is sold from offshore fields, where it is much easier for tankers to take oil than say in Cushing, where you have a physical limit on tank storage. Therefore, getting additional storage for Brent is much simpler, just need to get some tanker ships. You cannot simply build more tanks on land in Oklahoma.

 3.   Is T&T's oil based on WTI or Brent? What does this mean for us?

 Oil is produced in Trinidad mainly by Heritage (including its Lease out and Farm Out operators), BHP and Perenco. BP produces some condensate liquids.

 Minister Khan indicated on Monday that Trinidad mainly exports two types of crude. These are Molo – a blend of onshore and west coast oil from Heritage mainly, and Galeota – a blend of condensate from BP and oil from Perenco on the east coast. These are both benchmarked to Brent. On average, Galeota crude may sell a few dollars higher than Brent and Molo crude a few dollars below Brent. BHP also sells Calypso crude but it is unclear how their oil is benchmarked.

 For Jan and Feb 2020, T&T exported 3.1 million bbl of crude (25% Galeota, 62% Molo and 13% Calypso).

 Brent price on Monday was around $25/bbl. The big issue here is Heritage’s average breakeven price is around $25/bbl. Therefore, at these low prices, there isn’t any profit to be made by Heritage and its partners.

 Keep in mind our budget is based on WTI oil prices.

 4.   How much of T&T's revenue comes from oil vs gas?

 T&T produced approx. 57,000 bbl/day of crude oil plus condensate for 2020 so far. At an average of $32/bbl this is USD 1.8 million per day. Don’t forget revenue is not profit!

 We averaged 3.5 bcf/day of natural gas for 2020 so far. At $1.90 per mmbtu, this is USD 6.7 million per day.

 Just on gross revenue alone, therefore, about 80% came from gas for T&T in 2020. Keep in mind gas and oil are taxed differently, so the tax revenue to the govt will not be split by the same %. For 2019, the revenue split was more like 70% gas to 30% oil based on higher oil prices.

 5.   Has gas price also fallen like oil? If not, why?

 Several contributing factors. Gas is mainly sold on long term contracts with buyers who operate LNG, petrochemical and power plants (think Atlantic, TGU, Pt Lisas). So demand is much more fixed. Gas is also used for heating so demand has been fairly high as the northern hemisphere was in winter.

 In a worst-case scenario, you can flare gas if supply becomes too much, unlike oil. A major source of gas is shale wells in the US, and many of these producers are beginning to shut in wells due to low prices and restrictions around covid19, which will help stabilize the price.

 6.   If oil price is zero or below, does this mean importers of oil will get oil for free or even be paid to take oil?

 As explained in #1, buyers of the shares for the May futures contract for WTI would theoretically be paid to take the oil. In reality, it will probably go as a credit towards their future purchases. It does not mean that a man off the street would have been paid to take an actual barrel of oil home on Monday.

 7.   How much oil storage does Trinidad have?

 Heritage has indicated that it has 3.5 million barrels of storage (aka 2.5 months of current production). This is not clear either as there are fears it may be much lower due to the structural integrity of many of these tanks post Petrotrin.

 The world storage capacity is about 6.8 Billion barrels, approx. 60% of which is currently full. Cushing is about 75% full.

 8.   What does this mean for Trinidad's budget (which was based on oil price of WTI $65 in October and then reduced $40 in March, and gas price of $2.75 /mmbtu)?

 We have clearly overestimated the price of both oil and gas for fiscal 2020. Therefore, there will be budget shortfalls. In early April, Minister Imbert indicated the shortfall may be TTD $11 to 12 billion. This will likely be further exacerbated by the current drop in prices. It is not at all a pretty situation. Coupled with the local economy having been flattened by Covid19, we will certainly be facing tough economic times (like most of the world).

 9.   Why are we not paying less at the pump in T&T?

 The government subsidizes fuel when the cost of oil is high so the country is spared high prices like in the US or UK. However, the subsidy has been reduced over the last few years to the point where Premium is no longer subsidized but is sold at a profit. At this current time, there very well may not be a subsidy on Diesel or Super, and we may be paying more than it’s worth. This would depend on what Paria is buying these products for.

 The government can change their policy on this at any point and have these products be based on market rates only.

 What we need to consider is do we want to pay market rates? If the price of oil increases to high numbers at any point, we could be paying much more than we are now. So the question for the public is, do we want that exposure or do we like the certainty of knowing the fuel price? Just some food for thought.

 Javed Razack

GSTT Director

April 23, 2020.