Oil could soon fall to negative $100 per barrel: Energy analyst

Mizuho Americas Oil & Gas Analyst Paul Sankey joins Yahoo Finance’s Seana Smith to explain why he's predicting WTI crude could soon fall to negative $100 per barrel next month.

Video Transcript

SEANA SMITH: All right, well, let's talk a little bit more about what's going on in the energy market today. Like I said, we're seeing a bit of a rebound in oil. So oil prices jumping just around 18% right now. This is, of course, for the June contract. We have oil trading at $13.75 a barrel.

Now for more on this, I want to bring in Paul Sankey, oil and gas analyst at Mizuho. And Paul, you're the guy to talk to because back in mid-March, you actually called the fact that we were going to see this historic sell-off in the price of oil. And you called for the fact that oil was going to go negative. What are you seeing for the energy market right now?

PAUL SANKEY: Well, it remains extremely difficult. Really, the main thing that people are now focusing on is a final surge of Saudi oil that's coming inexorably towards us. If you recall in March, there was a highly disputed OPEC meeting where Russia and Saudi failed to make an agreement.

And in a fit of pique, to say the least, Saudi took its production to an all-time record only for a month, but nevertheless, those barrels take 45 to 60 days to arrive. And we can see this flotilla of tankers that are coming towards the US market, when just as Jeff said, we really can't handle it at all.

And the problem in the market today is really one of infrastructure and storage, of course, the biggest problem being that demand is down at absolutely unseen-- previously unseen levels in the modern era. So it's just tricky for another month or so.

I do have a lot of people interested in buying oil. I think we're just cautioning to wait a month or so until this final flushout occurs, and maybe we see the genuine comeback from COVID, which is what we really need, as the president said last night in response to what the problem is with oil and what he could do about it. His answer was to reopen, and that's quite right.

SEANA SMITH: Paul, I was reading through your note, and you were saying just because demand has been asked absolutely decimated, we could actually see oil fall to negative $100 a barrel. I mean, is that something that is realistic? And then what are the implications of that?

PAUL SANKEY: Well, there's two things there. Firstly, it's just that oil is difficult to handle. And if you can't put it anywhere, it becomes an environmental liability, literally. And so over this next month as storage is now effectively full, you could see some extreme negatives in terms of prices offered, which is really just the price that a pipeline or gathering company is prepared to pay you for a barrel. If there's nowhere they can put it, essentially, they're going to charge you to handle it. And that's where you get these extreme negatives.

We were also putting that out there as a market towards the bottom, indicating that although we saw minus $40 when we closed the May contract, in fact, Plains All American, for certain barrels, we're offering minus 60. And ultimately, what we were signaling is the market actually gets worse over the next three weeks until you can get to this absolute extreme negative.

There are calls to stop the Saudi barrels coming here, but of course, now they're US barrels that have been bought by US refiners. And the real challenge is it's difficult to shut down production as quickly as COVID hit, obviously. And so we've just got this terrible month ahead of us. Beyond that, obviously, things begin to turn the other way. And that's when you can start thinking about getting long oil.

Although, in our case, we believe that the first step is to buy refining because of the strong recovery we anticipate in gasoline demand and we think people are going to be driving a lot at the prices that you're going to see at the pump over summer.

SEANA SMITH: Yeah, Paul, I want to talk a little bit more about gasoline because there's lots of talk there about the price drop that we're seeing in crude and what that could mean for gasoline, not so much in the second half of the year, but really in the short term here over the next couple of weeks. How do you see that playing out?

PAUL SANKEY: Well, you're being gouged, and nobody ever notices that. But essentially, the price at the pump is far, far above what the wholesale price is. And it's one of the ironies of how people in the Street see oil. It's understandable when the oil price goes up a lot, they assume oil companies are gouging them at the pump when, actually, that's when they lose the most money at the pump because the price of crude rises faster than the price of gasoline.

On the way down, the price of crude far exceeds the declines that you'll see at the pump. And that's where they make huge profits. So there's a couple of companies. We like Dallek or Marathon Petroleum for this play, where they have very large gas station networks, and they'll be making a lot of money, actually, once demand recovers and we see people driving again.

The overall prospect further to your question is that gasoline prices will remain very low, and you should really be looking for something in the $1.30 nationwide at the pump over the course of summer, which is, of course, an extreme low.

SEANA SMITH: Yeah, it is extremely low when you take a look at the prices that we have seen over the last five or 10 years. Paul, I want to get your thoughts on terms of the timing of this recovery. Because we had White House economic advisor Larry Kudlow. He was out this morning saying that we'll see a sharp rebound in the price of oil once the economy reopens. What do you think of that argument, and when we talk about a recovery, how sharp of a recovery are you expecting?

PAUL SANKEY: Well, the problem with the Kudlow argument is that you have built enormous amounts of inventory. And also when OPEC cuts, they don't throw away the barrel of production capacity. The capacity to produce just sits there. So Saudi has just produced 12 million barrels a day and it cuts to 8 million barrels a day, an enormous cut, in order to balance the market. They still have the potential to produce 12 million in due course.

And so there's two major overhangs. The first is all the oil in inventory, including all the oil in tankers that's now just waiting to be used, and secondly, then, the spare capacity that you have globally. And one of the big debates we have at an advanced level on oil is how much production capacity will be damaged forever by this disorderly shutdown that we're getting, for example, in the US.

So if you shut a well too quickly or as a result of minus $60 oil, you will probably damage that well. And one of the bull cases for oil is we're going to lose quite a lot of capacity in more mature places, not Saudi, but places like Russia, places like Oklahoma, places like North Dakota. You might damage infrastructure-- sorry, well capacity-- on a go forward basis, and that would be a bull call.

The other main question, of course, is just how much demand recovers. Will people fly in the same way that they used to as recently as January? Will people go to cinemas, et cetera. That's all a major question about the nature of the recovery.

Because, in fact, global oil demand is very strong. We had 100 million barrels a day of demand. We lost 35 million barrels a day of demand, believe it or not. Will we go back to those previous levels? You can debate that as well as I can. It's really a question of how people's behavior will change going forward. Maybe we get a vaccine, and maybe we will go back to normal by next year, hopefully.

SEANA SMITH: Yeah, Paul, when we talk about the short term impact of what the massive slide that we saw in the price of oil, what that could mean for a lot of these energy means, there's talk about potential consolidation in this sector.

And I was reading through your notes and the one thing that stuck out to me-- or one of the things that stuck out to me, I should say-- is that you suggested that we could see Conoco Phillips merge with Chevron. And I know that this has been met with a high degree of some skepticism out there in the market, but from your perspective, why do you think that a merger like this would make sense?

PAUL SANKEY: Well, you know, one of my jobs as an analyst is to try not to say what everybody else is saying, obviously, because then I'm not really helping. Now you can be willfully stupid, which, obviously, I'm also trying not to be, but one of the things we can do is put ideas out there.

And the idea of a mega merger really comes from what we saw in the 1990s when the oil price was last this low. You actually got below $10 a barrel WTI in 1998. It was interesting that at that point, you saw a major round of really big mergers. Exxon merged with Mobil, BP with Amaco and Arco. And so the idea is maybe people haven't been talking enough about a mega merger.

Now subsequent to that, not least in conversation with various companies, the idea of Conoco merging with Chevron would probably be negative for Chevron, and therefore, Chevron wouldn't want to do it. I'm sure Jeff would agree.

But, you know, the idea that maybe there would be major savings in headquarter costs, what we call general administrative costs, the oil industry has overpaid itself. Executives have made far too much money. It's been an embarrassment how much executives have paid themselves. Maybe we should just get rid of some of these people and have a lot less companies. And I think that's what will happen.

I think ultimately, if there's going to be big buyouts, it's going to be of high quality, low break-even oil, obviously. And where we see that is in the Permian. You have names like Diamondback FANG, Parsley PE, Pioneer PXD, all of these companies, Concho CXO, and we like XEC, which also has gas exposure. And then, of course, you have Hess in Guyana.

Those are all assets that work almost to any price because there will be far more stuff going bankrupt before those assets ever do. So that's one idea for takeovers, which is just the highest quality stuff, which is probably what you want to buy. If you want a wild trade, you buy the worst stuff, the most levered. And of course, there's a long list of stuff, which is there's far too much debt, but which, especially with the Fed acting, can go up the most in the short term. It's not really long term sustainable, though.

SEANA SMITH: All right. Paul Sankey of Mizuho, thanks so much for joining us this afternoon.

PAUL SANKEY: Thanks for having me. It's a pleasure.