By David Haggith, the Great Recession Blog.
The fate of oil companies and nations hangs in the balance of oil
prices. Russia could go broke. Some think that’s by US design. Saudi
Arabia could experience its Arab Spring if oil prices remain too low too
long. And OPEC is dead. That’s the biggest news in this new century for
oil.
The House of Saud has stated clearly many times now and again this
week in an even more emphatic manner that it intends to move the oil
market from decades of OPEC price manipulation to a raw
supply-and-demand equation. Rigging the price of oil was the raison d’être
of the cartel known as the Organization of Petroleum Exporting
Countries, and that function has now ended. But people are slow to get
their heads around such big news.
Saudi Arabians enjoyed a tax-free environment as long as oil paid the
bills and cheap subsidized fuel. Huge revenue from oil enabled constant
pay-offs to the powerful that stabilized the state. All of that has
ended or is at risk of ending as the Saudis seek to rebalance their
state budget in the face of huge declines in revenue. So, changing the
pricing structure of oil is a perilous change of course for the House of
Saud, which tells you how serious they are about transforming the
market back to a free market.
It’s fraught with peril for all. Among oil companies and banks, it’s
not just the little leaguers that are
hurting. Royal Dutch Shell
reported an 83% decline in profits year on year. Most oil companies
reported significant drops in profit for the first quarter of 2016,
though many saw their stock values soar upon reporting because investors
had feared an even worse hit. Their banks have reported the same.
Oil’s big bang on banking
As I speculated in a recent article, the oil market may be entirely rigged by
central banks. We know from experience the Federal Reserve will buy
anything in any quantity to save its member banks. So, if low oil prices
are hurting major banks, why wouldn’t the Fed start buying oil … if
nothing else, through proxies? And why would it tell us if it did?
We learned months ago that trouble in the tar pits was bad enough
that the Dallas Federal Reserve Bank was telling its member banks not to
foreclose on bad oil loans because they’d just drown themselves in oil
debt if they started writing down their balance sheets to match the
fire-sale values they’d be creating by foreclosing.
The latest survey by the Federal Reserve … has revealed a pessimistic picture. Banks … are still skeptical about the ability of their energy industry clients to pay back their loans, and they are taking a variety of steps now to minimize the damage…. American banks are saddled with over $140 billion in unfunded loans … in oil and gas…. This will very likely weigh down on banks … and plunge them even deeper into the abyss of unfunded, non-repayable debt…. Basically, the lenders are doing whatever they can to sustain potential losses, apparently having learned a valuable lesson from the Great Recession. (Oilprice.com)
In other words, energy debt will rapidly spiral downward if banks
start foreclosing on all the bad debt. It will play out like the
collapse of housing debt in 2008 when foreclosures created fire-sale
prices throughout the housing market. Banks couldn’t unload the houses
as fast as foreclosures were piling up without crashing the market value
of all their collateral. So … they stopped foreclosing.
This time they are a little smarter and are avoiding foreclosures as
much as possible to prevent the same kind of death spiral with energy
loans. If oil prices don’t continue rise, however, the amount of time
banks can forestall on foreclosures will run out. Sooner or later, you
have to admit the debt is bad if it doesn’t turn around and write it
off, selling the collateral for whatever you can get in auction (into a
market where few oil companies want to buy more capital assets).
And that downward spiral is picking up speed:
In just the first four months of 2016 there had already been double the amount of bankrupt energy debt than in all of 2015, with the total secured and unsecured defaults rising to $34 billion, double the $17 billion total for all of 2015.
…The only real impact [of Chapter 11 bankruptcies] … will be that their all in production costs will decline substantially, allowing [them] to pump more oil at even lower prices, and thus adding to the global supply imbalance, something that will infuriate Saudi Arabia and add even more output to a market that remains chronically oversupplied. (Oilprice.com)
Moreover, the current crisis is bigger than bad oil debts due to the
spillover effect: In regions where oil companies cannot repay their
debts, laid off employees also cannot pay theirs, resulting in a rise of
mortgage defaults, credit-card defaults and car-loan defaults. There is
contagion to all aspects of banking. So, this is a problem big enough
for the Fed to secretly intervene, as it did during the housing crisis.
If the oil market is not rigged, it is certainly climbing on
speculation that is irrationally exuberant, and nothing looks more like
lemmings about to run off a cliff so much as irrational exuberance. It
is irrational (if not rigged) because, as I’ve pointed out in previous
articles, the price of oil goes up with every scrap of hope for a
decline in production or increase in demand but then holds stable
against major news that clearly indicates oversupply is likely to
worsen.
In light of my failed prediction that March would bring the perfect
storm against oil prices, I want to reassess the major forces currently
pressuring oil prices –those that should tend to drive prices back down
into the oil pits and those that should light oil prices on fire — to
see where the balance of power lies (absent market interference by
entities like central banks).
Pressures that could depress the price of oil again
OPEC is dead
The end of OPEC price manipulation in oil has to be the most
significant factor of all when contemplating where oil prices are likely
to go. Russia’s biggest oil CEO, Igor Sechin, scorned OPEC with some of
his harshest words ever this week:
At the moment a number of objective factors exclude the possibility for any cartels to dictate their will to the market. … As for OPEC, it has practically stopped existing as a united organization. The company (Rosneft) was skeptical from the very beginning about the possibility of reaching any sort of joint agreement with OPEC’s involvement in current conditions. (Newsmax)
Sechin is a close friend of Putin who argued constantly against even
trying for a production limit with Saudi Arabia, never believing (just
as I argued continuously here) that Saudi Arabia would ever go through
with a production cap. He sees the whole Doha meeting as an
embarrassment to Russia who spearheaded the meeting (which is why I
referred to it as Dohaha),
and he hopes to help Russia avoid such embarrassment in the future. The
chance of additional talks about production limits has been iced by
realization in Russia of how frivolous such hopes were in the first
place.
Sechin sees the breakup of the Doha meeting as the effective end of
OPEC, and said Russia should abandon any hope of price fixing through
production caps, which has been OPEC’s modus operandi. Saudi Arabia seems content to simply agree with that.
That should be clear by Saudi Arabia’s appointment last weekend of a
new energy minister, Khaled al-Falih, who offers even less hope of
production caps than his predecessor. His words have been
consistently clear … if people are willing to listen to them and stop
saying “The Saudi’s don’t really mean it.” Yes, they do:
Falih, who took over on Saturday from long-serving Ali al-Naimi, has been very vocal in the past year about his views that the oil market needs to rebalance through low prices and that the Saudis have the resources to wait.
Falih’s ultimate boss, Deputy Crown Prince Mohammed bin Salman, who oversees Saudi oil policies, has also signaled that the world is moving to a new era where supply and demand rather than OPEC will determine prices. (Newsmax)
Al-Naimi’s days appeared to be nearing an end at Doha when he was
ordered by the new Saudi crown prince to back down from making the
production freeze deal that he had been championing. Then, last weekend,
the prince retired the veteran oil minister, whose mere whispers could
drive the price of oil, and put Falih in his place.
Clearly, Falih wouldn’t have gotten the position if his outspoken
views about letting a free market set the price of oil from this point
forward were not the direction the House of Saud intends to move. To
think otherwise is to chose denial. The crown prince has clearly stated
his intention and has put someone in place to carry that out.
This means the end of the OPEC’s role in capping or lifting the cap
on production as a way of fixing oil prices. The rest of OPEC’s member
states are powerless to set prices if Saudi Arabia is done doing the
lion’s share of the work. The House of Saud’s resolve as social
pressures rise around it may be another matter; but for the time being
they are resolute, as all of their planning matches their words:
Prince bin Salman has spearheaded a historic initiative to wean the nation from its dependence on oil revenues over the next decade and a half. His “Vision 2030” for the country calls for a partial IPO of Saudi Aramco, using proceeds to setup the world’s largest sovereign wealth fund in order to invest in sectors of the economy not linked to oil. He also is seeking to raise revenues from other sources besides hydrocarbons, implementing new taxes for the first time. (Oilprice.com)
The new prince has clearly taken the reins of the oil industry. He
has replaced the old guard with new blood, the former head of Aramco,
Saudi Arabia’s state-owned oil company, and he is rebuilding Saudi
society to be less dependent on oil.
A new era of oil pricing has begun, in which balancing global supply and demand matters less to Saudi Arabia than it used to. That suggests we’re in for an bumpy ride. (Quartz)
Saudi Arabia’s balancing act
It would be foolish to think the new prince would reverse course from such sweeping changes anytime soon.
Why should Saudi Arabia or OPEC change course? Saudi Arabia decided not to reduce production in the face of oversupply in late 2014…. While it has taken much longer than expected, forcing prices to crash due to high levels of output is finally beginning to bear fruit. Some sixty-odd U.S. shale companies have declared bankruptcy and U.S. oil production is down almost 800,000 barrels per day from a year ago. More declines are forthcoming.
Why would Saudi Arabia do anything that lessens the pain of other oil
producers just as their strategy for regaining market share is starting
to bear fruit?
To underline their resolve, the new head of Saudi Arabia’s state oil
company Aramco, Amin Nasser, said that Aramco, which controls all Saudi
oil, intends to meet all future global demand increases He said
he expects global demand to grow this year by 1.2 million barrels per
day. Nasser believes the company can meet all of that with its current
capacity, so will not be increasing capacity immediately, but it has
room with its present capacity to expand production and sales.
“Saudi Aramco will continue to expand,” Nasser said at the company headquarters in Dhahran in eastern Saudi Arabia. “We will soon be publishing our annual book and you will see there is significant growth in our annual oil production compared to previous years.” (Bloomberg)
Falih said the same thing over the weekend:
“We are committed to meeting existing and additional hydrocarbons demand from our expanding global customer base, backed by our current maximum sustainable capacity….” The emphasis on maximum sustainable capacity once again hints that any incremental increase in global demand will be promptly met by a boost in Saudi output. (Oilprice.com)
So, do not expect an increase in global demand to reduce the
oversupply problem. Saudi Arabia produced an average of 10.2 million
barrels per day in 2015, and Aramco has the capacity to produce 12
million per day at a sustainable rate, 12.5 million all-out maximum
capacity. Nasser also said the company will expand in the future if it
needs to in order to meet future capacity requirements.
Current production increases at some fields have been seen as a force
that could suppress prices back down to where they were, but Saudi
Arabia says those increases have been aimed at compensating for
declining production at other fields.
The latest stage of its expansion project at the southeastern Shaybah oil field would be finished “in a couple of weeks.” The increased capacity of 250,000 bpd … is aimed at rebalancing Saudi Arabia’s crude oil quality and at compensating for falling output at other fields as they mature. (Newsmax)
“Mohammed bin Salman has changed everything,” Helima Croft, head of commodities strategy at RBC Capital Markets, told the WSJ. “He doesn’t feel the economic burden to have to cooperate with OPEC.” (Oilprice.com)
The combination of the new prince ascending in power and the new oil
minister means Saudi Arabia has doubled down on maintaining production
at a high enough level to the recapture market share it lost to
producers in other nations (such as the US) and to meet any increase in
future demand.
More than an oil price war, it’s all-out war
There is a larger balance-of-power struggle here that supersedes
everything else in the Saudi mind. The House of Saud, a bastion of Sunni
Muslims, perceives Shiite Iran as its greatest threat, not the Saudi
people. The Saudis see Iran as a nation hell-bent on creating an Iranian
Islamic caliphate while they see themselves as being the natural center
for control of any Islamic kingdom because Mecca and Medina are under
their government.
The connection between Islam and Saudi Arabia … is uniquely strong. The kingdom, which sometimes is called the “home of Islam” … is … the only one to have been created by jihad, the only one to claim the Quran as its constitution…. Muhammad bin Saud, brought a fiercely puritanical strain of Sunni Islam … to the Arabian Peninsula…. This interpretation of Islam became the state religion … espoused by Muhammad bin Saud and his successors (the Al Saud family), who eventually created the modern kingdom of Saudi Arabia in 1932…. [Saudi Arabia] has influence well beyond its borders, thanks in large part to the country’s largess towards Islamic causes funded by its oil exports since 1970s. (Wikipedia)
With Iran hurting from years of sanctions, the Saudis want to do all
they can to keep their greatest Islamic competitor from regaining market
share in oil that will restore their economy and fund future military
development. So, this is far more than a price war. It is a political
and religious war with deep roots of hatred, ideological competition and
distrust.
Ask yourself, which forces are most likely to control Saudi Arabia’s
production decisions (as the world’s largest oil producer) — budgetary
problems (which can be handled with loans) or hundreds of years of
religious and political rivalry when there is finally opportunity to see
the rival melt into their own desert sands? That’s adds a whole new
meaning to “price war” where oil prices become ammunition.
Iran is charging into the oil price war head on, not about to
capitulate to Saudi insistence that Iran agree to freeze production if
Saudi Arabia is to do so. At the start of this year, many market gurus
said it would take Iran a long time to ramp up production as it was
threatening to do, so that Iran didn’t matter much in this equation.
Some even thought Iran might sign on to the Doha deal. I said
consistently that Iran will definitely not sign on to the deal and that
it will rapidly succeed in upping its production so that will be a
significant factor in oil pricing very soon. It is now clear Iran is
well on its way to higher production goals:
Helima Croft, chief commodity strategist at RBC Capital Markets [said,] “Iran came back much faster than expected…. And if it’s bigger and stronger consistently, to me that’s the most bearish supply story….” If Iran succeeds with reaching and sustaining production at those levels, it could upset the balance of the entire oil market, according to Croft. (Marketwatch)
Russia not about to reduce production
The Saudis are also in an oil price war with Russia for market share
in China where they have been losing ground, which is one more reason
talk with Russia of a production freeze was never anything more than
talk.
While China’s oil imports grew 13.4 percent year-over-year to 7.3 million barrels a day in the first quarter of 2016, its imports from Saudi Arabia grew just 7.3 percent…. Meanwhile, Chinese oil imports from Russia surged 42 percent…. If the Saudis want to regain Chinese market share from the Russians, they may well have no choice but to either aggressively boost production or cut prices, or both, once again. (Oilprice.com)
Russia is committed to maintaining high production so long as prices
are low in order to keep building its Chinese market. In fact, some of
Russia’s oil executives say the costs Russian companies have already
paid out in capacity expansion and exploration practically force their
hand to maintain production during this time of low prices to try to
make back in volume a small part of their decrease in profit margins (in
that there is still a tiny bit of profit in the margin):
“We must understand that the oil prices cannot change drastically because we are now reaching the projected output level that we set out to achieve with the investments that we historically made six, five, four years ago, and the production cannot be curtailed,” said Vagit Alekperov, LUKoil’s Chief Executive Officer….
“What we see here, is that amidst the oil prices slump the Persian Gulf countries attempt to increase their production output to cover their budget deficits caused by slashed oil revenues, including compensating for the part of budget they need for procuring arms”, Alekperov noted.
However, LUKoil’s CEO believes oil prices are passed [sic.] their lowest point, and the equilibrium price should fluctuate around $50 per barrel for the rest of 2016 (Oilprice.com)
The Chairman of the Russian Union of Industrialists and Entrepreneurs, Alexander Shohin, says
As we have seen, the oil price did not react to the Doha agreement derailment, and in my opinion, the price of $40, $41, $42 per barrel shall remain as an equilibrium price under current market situation through 2016.
Industry leaders in Russia expect the price has stabilized in its
current $40-50 range, which is still low enough to keep squeezing out US
shale-oil producers, putting a tighter crimp on their already worried
bankers.
Forces that could ignite the price of oil
Global oil rig count continues to fall
Baker Hughes’s “International Rig Count” (http://www.wtrg.com/rotaryrigs.html)
reported that the global oil rig count dropped again in April. Total
International Rigs (which does not include the US, Canada or China)
dropped dropped by 39, putting the total count at 964 oil rigs. That is a
drop of 436 from its July, 2014, peak.
The US rig count dropped by another 41 in April, bringing the total
number of operating oil rigs down to 437. That is a huge overall
decline from its peak of 1,925 in November, 2014.
Canadian rig count has taken the worst plunge percentage-wise: The
total count has gone down from a peak of 626 operating rigs at its peak
in February, 2014, to just 41 rigs total!
Bear in mind, however, this primarily affects the future of oil and
gas supply. Rigs are for drilling, not pumping. So, these declines mean
that, in light of low oil prices, there is much less oil and gas
exploration and much less drilling of new wells in areas already known
to produce oil and gas. That, by itself, doesn’t diminish current oil
supply because there are still roughly enough wells coming online to
make up for wells running out of oil and going out of production.
It does mean that, once a number of players are completely out of
business, we could see (in a year or two) a huge increase in oil prices
due to a supply shortage as the pendulum swings the other way. While the
lower rig count doesn’t do much to lower today’s supply, it definitely
reduce’s tomorrow’s … if you look far enough down the road.
Drilling is a massive cost that can be cut without any immediate
effect on revenue. Therefore, stopping exploration and new well
expansion is a measure taken when companies have to worry more about
immediate survival than long-term survival. In the oil business, it’s
like stopping R&D.
The new era of arctic deep-sea drilling pronounced dead on arrival
One area of reduction in rig counts is the Arctic Ocean. The dawning
era of deep-sea exploration and drilling in the arctic has been issued
its toe tag. Drilling costs are exceptionally high in the arctic due
to austere conditions, environmental concerns, and remote location. As a
result, it’s become the area of first total retreat by major oil
companies, who have now ended their arctic drilling, even though that
means sacrificing government leases that give them drilling rights.
Several companies officially forfeited their rights to drill in the Arctic on May 1, having declined to pay the U.S. government to renew licenses…. Shell, Eni, Statoil, and ConocoPhillips all decided against paying to hold onto those drilling rights in recent weeks. “Hopefully, today marks the end of the ecologically and economically risky push to drill in the Arctic Ocean,” Michael LeVine, senior regional counsel for Oceana…. Arctic drilling is now dead for years at least…. The Interior Department could theoretically hold another auction for drilling rights, but even if it did so, it would be years away. (Oilprice.com)
Libyan oil production could hit the zero bound
While it doesn’t amount to much on a global scale, Libyan production
could go all the way down to nothing within a month. Libya’s Hariga port
is under blockade over a dispute between rival governments. The Tripoli
government says it will have to halt oil production within a month if
the port does not soon reopen.
“In less than four weeks we will have to shut production completely because the tanks at Hariga will be full,” Mohamed Harari, a spokesman for the National Oil Company, said in an e-mailed statement late on Monday. (Oilprice.com)
International Energy Agency says oversupply slowing down
The [IEA] projects that oversupply will be at 1.3 million bpd through the first half of this year (down from last month’s projection of 1.5 million bpd), as demand has been stronger than expected from China, India and Russia. It maintains its demand growth expectation for this year at 1.2 million bpd, but sees oversupply dropping to only 200,000 bpd in the latter half of the year. (Oilprice.com)
While the IEA is feeling more optimistic, oversupply is still
oversupply, even if it is revised lower than what they were projecting.
Continued oversupply still means, sooner or later tanks in storage
facilities start to overflow.
Short-term factors raising oil prices
Nigeria has reported over 3,100 breaks in its oil
pipeline system as a result of “vandalism.” The reduction of Nigerian
supply from this could increase if the violence against the state-run
system continues. This could be just a short-term reduction in global
supply from Africa’s largest oil exporter that ends as soon as the leaks
can be fixed; but militancy has been on the rise.
Canadian oil production is down by a whopping 1.6
million barrels per day due to wildfires in Alberta. That is enough to
completely wipe out the world’s oversupply situation and was enough to
keep prices up, even with all the bad news about Saudi Arabia staying in
the price war.
However, the fall-off in Canadian supply may be short-lived reprieve
for oil companies and banks worried about oil prices because the fire
could be out in a matter of weeks. Or course, it could rage on into the
summer; so, as with Libya the length of its effect is unknown. Local
winds changed this week to blow the fire back away from the oil sands
area, giving, at least, some temporary reprieve from the threat of
destruction of oil production and storage facilities.
Some are looking for increased demand from China to
help lift crude oil prices. I think they are dreaming. China has
recently tried spending its way back up to higher manufacturing, and the
results so far have not been good.
The summer season is here when gasoline demand normally rises.
So, where are oil prices headed?
Oil oversupply continues to fill tank farms. The report
this week of a 1.4-million barrel build at Cushing, Oklahoma, one of the
nation’s major oil storage regions, exceeded expectations
and temporarily drove oil prices down at the start of the week, but
they quickly recovered. It also could mean the IEA is already off on its
optimistic revisions of its oversupply projections.
In my mind, the forces pressing back toward lower oil prices — or, in
the very least, oil prices that stagnate in the low to mid forties for
the rest of the year — are larger and more plentiful than the forces
that have recently pushed prices up.
There is, of course, the normal summer increase in gasoline demand,
which is about to begin. Even that, however, is just a seasonal
improvement, while the Saudis and Russians are clearly planning for a
longterm battle for greater market share. I expect defaults in the
energy sector to continue to add pressure against banks throughout the
year.
I also expect the Fed and other central banks are already doing
anything they have to in order to mitigate this threat to banks, which
they will continue to do. That may be what the recent emergency Federal Reserve board meetings were
about. The bigger question is how many plates can central banks keep
spinning, as their recovery unwinds. The energy sector is only one area
in which banks are facing increased stress.
More reading on oil wars:
No hay comentarios:
Publicar un comentario