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Crude Oil Just Crashed Back Below $40 as Oil Market Faces More Threats

By Jason Hall – Updated Sep 21, 2020 at 4:43PM

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Crude prices have tumbled back below an important psychological benchmark, as the global balance of supply and demand remains messy.

The path forward for U.S. oil and gas companies continues to get more and more challenging. On Monday, West Texas Intermediate crude oil prices crashed 5.3% lower, falling back below $40 per barrel after a mini-rally last week moved prices above this important level. Brent futures, a major global benchmark, are down more than 4.3% to $41.27 per barrel. 

Today's big decline comes on the back of increased concerns about a surge in coronavirus cases around the world, along with Libya's move to bring as much as 1 million barrels per day of oil production on line and back to an already-oversupplied global market. 

Screenshot of falling oil and gas prices.

Image source: Getty Images.

As a result, the Energy Select Sector SPDR ETF (XLE -2.46%), which tracks the S&P 500 oil and gas components, fell over 5%, with oil-field services giants Baker Hughes (BKR -5.89%) and Schlumberger (SLB -3.26%) down even more. Shares of struggling oil producer Occidental Petroleum (OXY -1.45%) are also off sharply, down 4% at this writing. 

A bad problem getting worse

The coronavirus pandemic upended the global oil market early, sending the world into a massive oversupply as producers struggled to slow their output. In the first months of global lockdowns in March and April, global oil demand fell as much as 30%, or about 30 million barrels per day, while producers never came close to cutting output as much. This resulted in U.S. oil prices briefly going negative in April as futures holders were forced to pay others with the capacity to take delivery of the crude. 

And while this was the bottom of the price and demand environment, the overall oil market remains weak. Global demand is still down by almost double-digit rates from last year, and dozens of U.S. oil companies have already gone bankrupt as a result. 

Global giants are starting to take steps to grab any demand growth they can. Recently, Saudi Arabia cut crude prices to Asia and the U.S. for the first time since before the pandemic. This news sent crude below $40, after a summer that saw prices consistently stay above this price level. More recently, Libya announced that it was going to reopen its oil sector, which had been almost entirely shut down for most of 2020, and is now set to add what could eventually be up to 1 million barrels per day to the global supply. 

With coronavirus cases ramping up in Europe and the U.S., there's significant worry that the autumn and winter could lead to even weaker demand, undercutting the recovery we have seen since oil demand bottomed out in April. 

Global heavyweights are likely to dominate the recovery

Heading into the fourth quarter of the year, weak oil demand and petro-states including Saudi Arabia and Libya, as well as Russia, are likely to continue dominating the recovery. The OPEC+ bloc that includes all three has taken the lion's share of global production cuts to bring the market closer to supply/demand parity. As Saudi Arabia's price salvo earlier this month indicates, they're not going to just sit back and allow U.S. producers to ramp up production and soak up future demand growth without a fight. 

But the bigger concern for most U.S. oil companies is simply surviving until the recovery. The seasonal peak in demand is in the rearview mirror, and resurgence in coronavirus cases could send demand falling again. That's an existential threat many oil companies may not be able to survive. The industry is already a half-year into the most brutal downturn in history, and the margin of safety for many companies in the sector, measured as cash on their balance sheets or access to credit, is getting thinner. 

If oil demand continues to weaken, and global giants use their pricing power (as they have), the oil stock recovery may not be in the cards before 2021.  

Jason Hall has no position in any of the stocks mentioned. The Motley Fool has no position in any of the stocks mentioned. The Motley Fool has a disclosure policy.

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Stocks Mentioned

Occidental Petroleum Corporation Stock Quote
Occidental Petroleum Corporation
$57.88 (-1.45%) $0.85
Schlumberger Limited Stock Quote
Schlumberger Limited
$33.86 (-3.26%) $-1.14
The Select Sector SPDR Trust - The Energy Select Sector SPDR Fund Stock Quote
The Select Sector SPDR Trust - The Energy Select Sector SPDR Fund
$68.75 (-2.46%) $-1.73
Baker Hughes Company Stock Quote
Baker Hughes Company
$20.45 (-5.89%) $-1.28

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