At present, the coronavirus demands all our attention, but the roller coaster behaviour exhibited by oil prices is at least as alarming to investors. For the time being, consumers can rejoice at the lower price of petrol, but if this continues, the financial world will be in for another shock.
Perhaps you’re not aware of this because you’re in quarantine or forced to work at home, but fuel prices are dropping rapidly. In the past few days, a litre of Euro95 cost about 5 eurocents less than a week ago. And that difference may even get a lot bigger. The price of a barrel of North Sea oil is currently only $35. At the beginning of March this was just over $50 and after the turn of the year almost $70. Motorists have hardly noticed this enormous drop in prices, mainly because a very large portion of the price they pay for petrol is composed of excise duties and refining costs. However, if the oil price does not recover, this will have a tremendous impact on financial and forex markets.
Bankrupt or not?
The low oil price threatens to become a huge problem for small American shale companies. In many shale fields, drilling for oil is simply not profitable at the current market price. Businesses, however, desperately need that profit. According to credit rating agency Moody, U.S. energy companies will have to repay or renew loans to the tune of 86 billion dollars over the next four years. If no profits are made, it will be very difficult to find new lenders. This could just trigger the bankruptcy of a whole bunch of oil companies. This has major consequences for what is called the junk bond market, where these types of risky loans are traded. It would not be the first time that a crisis spreads to other segments of the debt market.
President Vladimir vs. Crown Prince Mohammed
Whether it will actually come to this depends to a large extent on two men: Vladimir Putin and Mohammed bin Salman. At the end of last week, Russian President Putin refused to cooperate with OPEC’s plans to reduce oil production by 1.5 million barrels a day. That was a new dent in the image of the oil organisation. To show that OPEC does indeed have teeth, Saudi crown prince Mohammed intends to increase the production of oil significantly. Instead of 1.5 million barrels less, there will soon be 2 million more barrels on the market.
Will the rouble be the deciding factor?
The consequences of that move were obvious: the price of oil went rock-bottom. Crown Prince Mohammed will not give in easily in this battle, and the last bit of power displayed by OPEC will ebb away. So, now it’s Putin’s move. The RUB has already fallen by approximately 20%. Fortunately for Putin, Russia has enormous currency reserves. But to what extent does he want to fall back on this in order to maintain – or preferably increase – Russia’s market share in oil? The longer he waits, the happier the oil companies will be. However, the pressure on the junk bond market is also increasing. Investors and forex traders can be assured of difficult times ahead.
Joost Derks is a currency specialist at iBanFirst. He has over twenty years of experience in the forex world. This column reflects his personal opinion and is not intended as professional investment advice.