Consumers Aren't Buying Oil But China Is

April 2, 2020 10:43 AM
China to stockpile 90 days of net oil imports
Monthly OSP continues to fall as China squeezes the market
President Trump to meet with U.S energy CEOs on Friday
The Energy Report


The Phil Flynn Energy Report 

Someone Is Buying

Dire predictions of single-digit oil prices may have to wait as China and the U.S. are changing the dynamic in what the International Energy Agency (IEA) calls the worst oil shock in history. Talk that China is getting ready to buy up cheap oil and fill its strategic petroleum reserve is giving the oil market a bid. They are also telling Saudi Arabia that they want to buy that oil at a substantial discount. It is not like a lot of other people are buying.

Also, talk that the U.S. may allow U.S. oil producers to borrow space in the U.S. Strategic Petroleum Reserve (SPR) will enable producers to take advantage of the considerable contango in the futures market. In other words, that can put low $20 a barrel oil in storage and sell in say August, when demand is expected to come back and lock in a price that may keep some producers in business. This comes as President Trump is predicting the end of the Saudi Russian oil price war. These rapid developments may support the oil market from the prediction of total collapse and allow the market and oil companies to ride out the historic and unprecedented demand destruction storm.

China is not waiting around. Looking at the wide contango, they know the time to start buying is now. Bloomberg News reports that “China is setting a target to cover 90 days of net oil imports and may be looking to expand the reserve to as much as 180 days of supply. Bloomberg ”  The initial target is to hold government stockpiles equivalent to 90 days of net imports, which could eventually be expanded to as much as 180 days when including commercial reserves.

Ninety days of net crude imports are about 900 million barrels, according to data compiled by Bloomberg. While the current size of China’s state reserves is unknown, and Beijing could use a different method for calculating net imports, oil traders and analysts estimated it could amount to China buying an additional 80 million to 100 million barrels over the course of the year.

China is also squeezing the Saudi’s on the oil price. Top oil exporter Saudi Arabia is expected to make the deepest cuts to its monthly official selling prices (OSP) to Asia since 2012, tracking declines in Middle East benchmarks and weak refining margins as the coronavirus outbreak has cut demand. Six refiners polled by Reuters expect the April OSP for Asia for Arab Light crude will fall by $2.04 a barrel on average. That would be the biggest price cut for the Saudi flagship-grade since early 2012, according to Refinitiv Eikon data.   

So, in other words, these prices are not working for Saudi Arabia either. Perhaps that is why President Trump is confident that a meeting between the U.S. Saudi Arabia and Russia will end this what President Trump calls a ‘crazy” price war. President Trump also called for a meeting with U.S. oil CEOs. Former Continental CEO Harold Hamm, along with Chevron, Devon, Enterprise Transfer, Exxon,  Occidental, and Phillips 66 are among those that will be there.  President Trump said, “I’m going to meet with the oil producers on Friday. I’m going to meet with independent oil producers also on Friday or Saturday, Maybe Sunday. We’re going to have a lot of meetings on it,” Trump told reporters at a media conference.

The President said that he would talk with  Saudi Arabia and Russia. “They’re going to get together, and we’re all going to get together, and we’re going to see what we can do,” he said. “The two countries are discussing it. And I am joining at the appropriate time if need be.” He also said, “ Worldwide, the oil industry has been ravaged,” he said. “It is very bad for Russia, it is very bad for Saudi Arabia. I mean, its very bad for both. I think they’re going to make a deal.”

Russia agrees. Reuters is reporting that “Russian President Vladimir Putin called on Wednesday for global oil producers and consumers to address “challenging” oil markets while U.S. President Donald Trump complained that oil cheaper “than water” was hurting the industry".

Speaking at a government meeting, set up via a video link as a precaution against the coronavirus, Putin said that both oil producers and consumers should find a solution that would improve the “challenging” situation of global oil markets. He also said if investments into the oil sector fall, oil prices are sure to spike, something he said: “no one needs.”

He is right. The massive cutbacks in spending and refinery run cuts could leave us short supplied when demand starts coming back. Reuters reported that Reuter reported that “ Whiting Petroleum Corp filed for Chapter 11 bankruptcy, the U.S. shale producer said on Wednesday, the first publicly traded casualty of crashing crude oil prices that are expected to bite into record U.S. output.”

It has been bad. The worst shock in history. The IEA said that “the oil world has seen many shocks over the years, but none has hit the industry with quite the ferocity we are witnessing today. As markets, companies and entire economies reel from the effects of the global crisis caused by the COVID-19 pandemic, oil prices have crumbled. The impacts will be felt throughout oil’s global supply chains and ripple into other parts of the energy sector.

The pressure is coming from all sides: a precipitous decline in global oil demand as the pandemic has slashed fuel consumption, especially in the transport sector, aggravated by a supply shock due to the end of restraints on production from OPEC producers and Russia (OPEC+). The scale of the collapse in oil demand, in particular, is well in excess of the oil industry’s capacity to adjust.

With 3 billion people around the world under some form of lock-down because of the coronavirus, one of the traditional stabilizer for the oil market is missing. Low prices usually stimulate a reaction from consumers, but such a boost to demand is highly unlikely this time around, at least for the duration of the global health emergency. Instead, a rapid build-up of oil stocks is starting to saturate available storage capacity, pushing down prices further. This is an unprecedented moment for those engaged in the business of supplying oil and those who rely on the associated revenue.

The oil contango tells us demand is going to come back, hopefully in a few months. If the U.S. uses the SPR for storage lending, that will provide immediate cash for producers that can hedge, it will also bring down the back-end and increase the front end. On top of that, the U.S. may join China and start buying what may turn out to be once in a decade opportunity to buy cheap oil. Still, I realize oil still is facing some very bearish fundamentals. Some oil basins are going to be very stressed—Canada, whose prices are almost negative. Yet for the major benchmarks, if the production war ends and China in the U.S. start buying, the worst could be over.

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About the Author

Phil Flynn is a senior energy analyst at The PRICE Futures Group and a Fox Business Network contributor. Phil is one of the world's leading market analysts, providing individual investors, professional traders, and institutions with up-to-the-minute investment and risk management insight into global petroleum, gasoline, and energy markets.