Quote of the Week
“As part of our long-term plan to build a more resilient economy, create jobs and deliver secure energy supplies, we continue to back our onshore oil and gas industry and the safe development of shale gas in the U.K.”
British Energy Minister Nick Bourne
1. Oil and the Global Economy
The great oil price slide of 2014-15 is taking on epic proportions. US futures traded for a while below $40 a barrel on Friday while Brent closed out at $45.46. Last week the financial press struggled to find an historical comparison to what is taking place in the oil markets. Some papers finally settled on the price crash of 1986 which sent oil prices down to $10 a barrel and led to the demise of the Soviet Union as the most apt. The now familiar forces of too much oil in inventories with nobody moving to cut production; China’s exports, manufacturing, yuan, and stock markets continuing to drop with still more problems in sight; and the prospect for increased Iranian exports after the nuclear agreement is ratified; all contributed to the falling prices. Many sense a decisive shift in the oil markets overall appraisal of the situation with those expecting a price rebound at any minute throwing in the towel and acknowledging that those not expecting a substantial price increase until late 2016 or even 2017 are probably right.
In the immediate future we have the prospect that US refiners will cut back on their demand for oil as they switch over to winter gasoline and perform refinery maintenance in September and October. Space for storing the excess oil is again becoming a concern. Some observers note that more oil is coming into the US than necessary, 8 million b/d the week before last, as speculators see they can make a sure profit by holding oil in storage until distant futures contracts expire.
Large banking institutions are split on where prices are going in the remainder of the year. Credit Suisse believes conditions are ripe for a price surge to $71 a barrel in the next few months. Citigroup sees prices going below the 2008 low of $32.40, while an “influential money manager”, David Kotok, believes we could see $20 or even $15 a barrel before it is all over. For years, people have been saying that it took prices close to $70 a barrel for most or at least some North Dakota oil producers to make a profit. It now seems that with new “efficiencies” and drilling into only the sweetest of sweet spots some in North Dakota can make a profit at $29 a barrel. This will likely prove to be accomplished by creative accounting rather than creative well drilling.
Many are asking why retail gasoline prices are not falling as fast as crude. Industry observers are telling us this is due to higher demand this summer (up 6.6 percent in the last 12 months) for expensive-to-produce summer blends of gasoline. The current Indiana refinery outage has driven up prices in the region by more than 50 cents a gallon which pulls up national averages.
US treasuries registered the biggest weekly gain in five months as lower commodity prices has led to speculation that we are entering a period of deflation that will delay the increase in US interest rates which had been widely expected to occur this fall. Numerous observers of the global economy have noted recently that much of the world seems to be moving towards “disinflation”, a harbinger of hard times ahead.
Natural gas prices fell to the bottom of their recent trading range last week as the approach of autumn means less demand for gas to power air conditioning.
2. The Middle East & North Africa
Iran: Most of the news about the Iranian situation came from the US and Israel last week where efforts to block the nuclear accord are going full throttle. Much of the Congress and those running for President continue to denounce the deal, claiming that more resolve and a tougher negotiating stance by the US would soon have the Iranians on their knees. However, the deal worked out by the White House and Congress means that the nuclear agreement will go through unless the opponents can amass a two-thirds majority to block a Presidential veto. The latest assessment by the New York Times and other independent watchers says that the agreement will not be blocked despite all the political posturing.
Last week’s news was headlined by a report that there was a secret deal between the IAEA and Tehran whereby the Iranians could do their own inspection of military facilities and certify that they were not doing any work related to nuclear weapons there. This allegation was strongly denied by the IAEA. The other news was a revelation by the former Israeli defense minister that his country was on the verge of bombing Iranian nuclear facilities in 2010, 2011, 2012, but the attack was postponed because of readiness issues, scheduling conflicts, and a last minute change of heart by two members of Israel’s “war cabinet.” Where this leak takes the debate over the treaty is hard to say.
In the meantime, Tehran is talking about all the good times ahead when the sanctions are lifted and its oil industry blossoms. Most outside observers are doubtful that Iran can grow its oil industry as fast as Tehran would like.
Syria/Iraq: The major news last week switched to Europe where tens of thousands of refugees from the fighting are trying to make there way into the EU through Turkey and Greece to escape the endless and harsh conditions in refugee camps. Europe is in a quandary as to what to do about the refugee flow from the Middle East and Africa into the Union which is now approaching a million a year. The weather in the Middle East has been beastly hot this summer suggesting that climate change will eventually lead to still larger migrations out of the region as sources of water and food dry up.
There was not much movement in the Syrian military situation last week. Tests seem to confirm that ISIL used mustard gas against Kurdish fighters, but as the US and its allies are already bombing ISIL as hard as they can, this news is unlikely to bring much of a reaction. Washington announced that it had killed the #2 ISIL leader in an airstrike last week, but so far the organization has shown a remarkable ability to adapt and keep on fighting.
There seems to be much enthusiasm in Iraq for the recent government reforms aimed at shrinking the swollen government and reducing corruption. However, there is much reason to be skeptical that these reforms will be any more successful than others. In the meantime, the fighting in Iraq seems to be at a stalemate. US airstrikes seem sufficient to prevent ISIL from undertaking serious offensive action against the government’s forces, and the Shiite militia which is now the government’s only effective force remains unwilling or unable to move against ISIL despite a plethora of Western and Iranian military advisors. This war seems destined to continue indefinitely.
The Kurds are complaining that they are losing substantial revenue from sabotage and pilfering along the Kirkuk-Ceyhan pipeline through Kurdistan and Turkey.
Libya: The flow of African refugees moving through Libya and onto boats for Italy could lead to some sort of European military intervention into Libya soon. Thousands of would-be immigrants are being set adrift off the Libyan coast daily where they either drown or are rescued by European ships. It is becoming obvious that the only way to end this is by a military occupation of the Libyan coast. Such an action could have implications for the country’s oil production – possibly good if the situation is stabilized and foreign companies can return.
An uprising against the ISIL militants holding the city of Sirte was brutally quelled by the Islamic State forces. Libya Dawn, the militia which holds Tripoli, sent a column to drive the jihadists from Sirte. This in turn led to a local uprising against ISIL by Sirte militiamen that resulted in a slaughter of the locals. The two Libyan governments are calling for Arab League and European assistance in dealing with ISIL. The situation in Libya has become so unstable that some sort of foreign intervention seems likely.
Saudi Arabia/Yemen: The chaos continues. The Saudis continue to bomb, killing dozens; Al Qaeda is moving into parts of liberated Aden; the humanitarian crisis is growing; and, in general, after five months of fighting, Yemen looks like Syria did after five years. Unlike in Syria, the Yemeni refugees have no friendly borders to which to flee. Last week the Saudis bombed the Yemeni port of Hodeida through which much of the foreign aid was flowing to the northern, Houthi, part of the country.
Questions are arising as to just how long the Saudis can hold out against low oil prices. Back in 1998 low oil prices caused a Saudi fiscal crisis; since then the Saudi economy has quadrupled but its international and domestic obligations have grown markedly. Economists are saying that the Saudis will run a 20 percent budget deficit this year, and central bank reserves are down 10 percent or $70 billion in the last year. Outside of oil, petrochemical, and refining revenues, the country has little other industry and most employment is provided by the state. Keeping its 30 million citizens and foreign workers happy requires massive amounts of social spending to preclude a Saudi Arab Spring against the ruling family from developing.
The country, however, still has about $664 billion in foreign assets and little debt so an economic collapse from low oil prices is still years away. The Saudis have many options to cut non-essential spending and taxing the wealthy before it would become necessary to cut social spending.
Much of the world’s attention is focusing on China’s economy these days and none of the recent news is good. Last week manufacturing suffered its biggest decline in six and half years. The stock markets are still not trading shares likely to suffer major losses, and government policies towards supporting stock prices are becoming erratic. The main Shanghai index has fallen 15 percent in the last month and is now approaching a six-month low.
Questions are being raised as to whether the political/economic model that has brought China so much success for the last 37 years is coming to an end. Government efforts to implement reforms that will transition its economy from depending on exports to one that increases domestic consumption seem to on hold amidst the increasing economic problems. The anti-corruption drive, which already has purged or jailed as many as 200,000 government officials, is paralyzing decision making. It is becoming obvious that the government’s claim that the economy is still growing at the planned 7 percent is a fiction.
China has become such a large part of the global economy that many of its trading partners are starting to suffer from declining economic activity. The recent devaluation of the yuan is not helping global currency markets and many see the beginning of a global currency war.
From the peak oil perspective, our question is what happens to China’s demand for oil which has been the mainstay of the global demand for ever increasing amounts of oil. Thanks to the large increase in US domestic oil production and the consequent reduction in imports, China is now close to being the world’s leading oil importer. The course of its economy over the rest of the decade will have a major impact on oil prices.
The ruble took another major hit last week falling from 64 to 69 to the dollar as oil prices tumbled further. Data released last week shows consumer demand falling in July by 9.2 percent year over year. In the first 7 months of 2015, retail sales fell by 8.1 percent. Real wages adjusted for inflation fell by 8.2 percent in July. The central bank has lowered interest rates to 11 percent in five steps this year, but may halt further easing if international oil prices slip to $40 a barrel from the current $45. Inflation has cut the purchasing power of wages by more than 8 percent in the last quarter.
Russia is undergoing the first sustained decline in living standards since President Putin came to power 15 years ago, but so far none of the hardships seems to have touched his political popularity. The hardships the Russian people are undergoing due to the oil price drop and the Western sanctions may seem tame to those who went through the collapse of the Soviet Union 25 years ago when purchasing power declined by 50 percent.
5. The Briefs
Norway’s Statoil said Friday a pipe-laying vessel passed a milestone with construction of the 300-mile-long Polarled gas pipeline crossing the Arctic Circle—the first pipeline to do so. The pipeline’s onshore processing terminal will be ready to receive natural gas by 2017. (8/22)
Norway’s economic growth slowed in the second quarter as plunging crude prices sap investments and drive up unemployment in western Europe’s biggest petroleum producer. Seasonally adjusted gross domestic product, excluding oil, gas and shipping, grew 0.2 percent, after expanding a revised 0.3 percent in the first quarter. (8/20)
British shale natural gas pioneer Cuadrilla Resources said it was awarded two new licenses to explore the reserve potential in Yorkshire. Cuadrilla secured licenses to explore around 750 square miles of combined land in Yorkshire. During the next year, the company said most of the activity would consist of “desktop studies” that will give the company a better idea of the geology and reserve potential. (8/20)
Russia’s Lukoil said it sold its stake in a Kazakh oil producer to a rival in Beijing just as China’s economy falters and Kazakhstan’s gets a $1 billion loan. (8/22)
OPEC’s “fragile five:” The costs of OPEC’s plan to protect members’ share of the oil market by out-producing rivals are mounting. As oil prices slump to six-year lows, the risks of worsening political turmoil are rising in the organization’s most vulnerable nations. This includes Algeria, Iraq, Libya, Nigeria and Venezuela, a group dubbed the ‘Fragile Five’ by RBC Capital Markets Ltd. (8/19)
In Israel, political feuding and bureaucratic infighting have delayed for years the development of its biggest gas field and now threaten Prime Minister Benjamin Netanyahu’s fragile coalition government. No development work has started so far on the Leviathan field, the largest in the Mediterranean and estimated to hold 22 trillion cubic feet of gas—enough to supply a country like Turkey for more than a decade. (8/21)
Israel’s Cabinet on Aug. 16 approved a deal with a US-Israel consortium that would move forward development of the huge Leviathan natural gas field off Israel’s Mediterranean coast. The deal still needs the approval of Israel’s parliament. (8/17)
Angola will export the most crude oil in almost four years in October as the OPEC member satisfies Asian demand and offsets diminished revenue from lower oil prices. Africa’s second-largest producer plans to ship 1.83 million barrels a day in October. Angola slashed its budget by a quarter in response to the slump in crude prices. (8/19)
Nigeria has been recording low exploration and production activities since November last year, as several oil and gas firms began scaling down production due to the uncertainties surrounding the Petroleum Industry Bill and the declining crude oil prices. (8/18)
Colombia’s peso led global currency declines as oil, the nation’s biggest export, tumbled on concern that a slowdown in China’s economic growth will reduce demand for the commodity. (8/22)
Mexico cut its growth forecast for this year, a week after a similar move by the central bank, citing declines in oil output and US industrial production. Gross domestic product will expand 2 percent to 2.8 percent this year, down from a May forecast of 2.2 percent to 3.2 percent. That forecast is down from 2.6 percent in the previous quarter and at the low end of the full-year range the government projected three months ago. (8/21)
Mexico hedged oil exports for 2016 at an average price of $49 a barrel, down 36 percent from the hedge for this year as oil prices tumble and domestic production declines. The hedging contracts covered 212 million barrels of crude oil. It cost the government about $1.1 billion, the highest sum since 2010. The 2016 oil hedge is well below the $76.40 a barrel at which the government hedged for this year. (8/20)
Canada’s high-cost oil-sands producers are struggling as oil prices sink to fresh six-year lows, and even the most efficient drillers are losing money on every barrel they produce at current prices, according to a report published Wednesday. Canadian oil-sands production has grown 30 percent in the past five years but the recent price slump has hit producers’ bottom lines and forced them to suspend development of new projects. (8/20)
The operator of Canada’s largest crude oil refinery, Irving Oil Ltd., said it has stopped importing Bakken Shale oil from the U.S. in favor of cheaper crudes from such producers as Saudi Arabia, reflecting a shift in crude costs affecting East Coast refiners during a global slump in oil prices. The 320,000 b/d refinery in Saint John, New Brunswick, has reduced purchases of Bakken crude shipped by rail to zero from a high of nearly 100,000 barrels a day two years ago. (8/21)
Oil sands reversal: It’s wreaked havoc on crops and shut down fisheries across Alberta, but now the hot dry weather and ensuing stresses on our rivers have hit the oil sands. This week the Alberta Energy Regulator reined in oil companies by imposing restrictions on how much water they can draw from the North Athabasca basin. An expert says this year’s low flows are the result of both climate change and a strong El Nino event. (8/20)
US rigs targeting oil rose by 2 to 674 this week, the highest since the last week of April, Baker Hughes said. However, at the currently low price level, the recent drilling increase may be short-lived, and the rig count remains almost 60 percent lower than in October 2014. (8/22)
US crude oil imports topped 8 million b/d last week for only the second time this year, spurring an unexpected rise in stockpiles and sending U.S. oil prices down to a fresh post-crisis low. (8/22)
US exports: Legislation to repeal a 40-year ban on most domestic oil exports will probably become law in the first quarter of next year, according to analysts at Evercore ISI. A move to end the ban would probably include a condition that allows the administration of President Barack Obama to set export levels. (8/22)
Several oil-producing states rely heavily on severance tax revenue—taxes based on the volume and/or value of oil, natural gas, coal, and other natural resources. On average, severance taxes accounted for less than 2% of state tax collections in 2014, but in three states—Alaska, North Dakota, and Wyoming—severance taxes provided a much larger share of total state tax revenue in that year. Alaska relies on revenues from oil and natural gas production for up to 90% of its budget, and consequently the state experiences fluctuations in tax receipts that reflect changing oil and natural gas prices. (8/22)
Repurposing Texas toilet water: Pioneer Natural Resources has signed an 11-year, $117 million deal with the city of Odessa, Texas that will guarantee it access to millions of gallons of treated municipal wastewater each day, for use in nearby oilfields. The tactic will save water and thus well costs. (8/21)
Arctic oil risk disclosure: Eleven US Senate Democrats and Independent Bernard Sanders (Vt.) asked the US Securities and Exchange Commission to make Royal Dutch Shell disclose to the public and investors inherent risks offshore oil drilling poses if there is a spill or other environmental accident. (8/21)
Arctic oil politics: Alaska is a battleground in the US debate over energy development and environmental protection. Hillary Clinton has broken ranks with President Barack Obama on the environment for the first time in the 2016 election campaign, saying the Arctic should not be exploited for offshore oil the day after the Obama administration gave Royal Dutch Shell a drilling permit. (8/19)
GOM auction dud: With oil prices collapsing and companies in retrenchment, a federal auction in the Gulf of Mexico on Wednesday attracted the lowest interest from producers since 1986. It was the clearest sign yet that the fortunes of oil companies are skidding so fast that they now need to cut back on plans for production well into the future. (8/20)
New pipelines operating in North Dakota have pushed the volume of crude oil by rail lower during the first half of the year. Rail broke away from pipelines as the main source of crude oil delivery in 2012. After peaking in December 2014, when the state set its crude oil production record at 1.22 million barrels per day, transport by rail has been in a general decline and is now at parity with pipeline transport. (8/19)
Rockies pipeline blues: Eight years ago, a group of companies began building a $6.8 billion pipeline to carry natural gas from America’s Rocky Mountains to fuel-hungry markets in the East. Then came the shale gas revolution. The eastern US is now home to the country’s most productive formation, the Marcellus, and the 1,698-mile Rockies Express is carrying lower-cost gas in the opposite direction. On Aug. 1, the pipeline was partially reversed, shrinking the market for Colorado and Wyoming drillers who’ve seen their share prices fall as much as 93 percent from 2008 highs. (8/20)
New methane regs: The U.S. Environmental Protection Agency called for the first-ever mandates regarding methane emissions generated by the oil and gas industry. That proposal models Western state shale rules already on the books in Colorado, the state’s governor said. (8/20)
In Pennsylvania, Gov. Tom Wolf issued a study he commissioned in late April of issues stemming from the growing number of crude oil shipments by rail across the state. The report made 27 recommendations including calls for more frequent track inspections and adoption of several voluntary safety measures. (8/19)
Sinking feeling: Vast areas of California’s Central Valley are sinking faster than in the past as massive amounts of groundwater are pumped during the historic drought, state officials said Wednesday, citing new research by NASA scientists. The data shows the ground is sinking nearly two inches each month in some places, putting roads, bridges and vital canals that deliver water throughout the state at growing risk of damage. (8/20)
Climate change deal wobbly: A planned global deal to keep average temperatures from rising more than two degrees Celsius to contain climate change is under threat unless more countries submit emission-reduction targets and technical negotiations are substantially accelerated, the European Union’s energy and climate commissioner warned Thursday. (8/21)
Nicaraguan canal daydream? Construction a $50 billion canal through the heart of Nicaragua is predicated on the notion that it will attract many of the larger vessels that the Panama Canal — located just 300 miles to the southeast — has historically struggled to accommodate. Supposedly financed by a Chinese businessman, a construction deadline of 2020 has been set. Yet a four-day tour through El Tule and surrounding areas slated for crucial initial development only seemed to corroborate the belief that this project isn’t going to get done. (8/20)
Quote of the Week