Find out why the expanding coronavirus epidemic is poised to have broad market impacts on the global economy and, in turn, oil prices.
Nearly two decades ago, the SARS epidemic began in China and spread to at least 20 other countries. Although it killed almost 800 globally, the economic impacts were felt mostly in China. This time, although the expanding coronavirus epidemic appears to have a much lower mortality rate, it’s poised to have a significant negative impact on the global economy and, in turn, oil prices.
The reason the global impact is likely to be greater is a lot has changed in the Chinese economy since the SARS outbreak. China's economy is much larger, is a more important market for other countries, its companies manufacture more sophisticated products and they’re more intertwined in global supply chains. With travel restrictions affecting much of the country and people staying away from work and other public spaces, the economic impact is starting to be felt; yesterday, the Shanghai Composite Index closed down almost 8%.
According to Oxford Economics, China's economic growth in 2020 was previously estimated to be 6.1%; it has revised its estimate to 5.6% based on the impact of the virus so far. They also estimate this would reduce global economic growth to 2.3%, putting it at the lowest level since the 2008 Financial Crisis.
Predictably, this has been bad news for oil prices. West Texas Intermediate (WTI) for March delivery closed at $49.91/bbl yesterday and the forward curve for the next five years is currently below $51/bbl. In December, OPEC implemented production cuts to strengthen oil prices; however, those are insufficient for the current crisis. The large members of OPEC are meeting this week in Vienna to discuss the situation and there’s some consideration of an emergency ministerial meeting this month.
Unfortunately, all this comes at the beginning of borrowing base redetermination season for many independent operators. Banks reduced many borrowing bases and tightened some loan covenants in late 2019. A lower bank price deck will only add difficulty to an already tight credit market.
This article was published in the February 4, 2020 issue of the RED Weekly E&P Update Newsletter, republished with permission.
