OPEC’s Battle and Cheap Money
US natural gas has taught us this: In this era of free money, prices can
stay below the cost of production a lot longer than anyone imagined years
ago.
When cheaply borrowed money leads to overproduction, which leads to excess
inventories despite rising demand, prices plunge to ludicrously low levels.
And if borrowed money keeps pouring into the sector to keep existing
investors afloat, drillers continue to overproduce because they have to in
order to get even more new money to service the pile of existing debt, thus
piling up even more debt and causing the price to get hammered down over and
over again.
The price of US natural gas collapsed in 2009 and, except for a few brief
episodes, has remained below the cost of production ever since. Now that
investors are finally turning off the spigot, persistently negative cash
flows can no longer be funded with new debt. Two major drillers have gone
bankrupt this year. And the second largest natural gas driller in the US,
Chesapeake, is headed for deep trouble.
But this is six years after the price collapsed. Tens of billions of
dollars from investors have been drilled into the ground to never be seen
again. And the price of natural gas is still below the cost of
production, as production hit new records.
The oil market is different because it’s global and more geopolitical. But
as with US natural gas, it ends up being about money and production.
Production will go down only when the new money dries up. That hasn’t
happened yet except on the riskiest fringes.
Instead, production continues to exceed demand, and inventories are
ballooning globally on a historic scale. The below report is from ISA
Intel via Oil & Energy Insider:
OPEC increased output in 2015. Gains led by Iraq and Saudi Arabia
- OPEC made its now famous decision in November 2014 to
leave its production target unchanged at 30 million barrels per day
(mb/d). Since then, the group has consistently exceeded that target.
- In October, OPEC produced an average of 31.76 mb/d, well
in excess of the stated quota.
- The production gains made since last year have almost
entirely come from Saudi Arabia and Iraq, each adding around 500,000
barrels per day.
OPEC fighting for Europe market share
- News reports have documented the battle for market share
in Europe between Russia and Saudi Arabia. Saudi Arabia’s increased
exports to Europe are pushing down the price of the Urals blend, the
benchmark price that Russian oil sells for.
- However, Iraq has also dramatically increased oil
exports to Europe.
- Saudi Arabia and Iraq have benefitted from Iranian
sanctions. Increased market share came from the 1 mb/d that Iran used to
sell to Europe.
- Iranian exports are set to begin again soon. Battle for
market share in Europe will intensify, likely pushing down prices.
Record Oil storage levels
- Crude oil inventories are rising around the world (see
black line on charts above).
- Swelling storage points to ongoing glut in supply, not
enough demand.
- Until stocks draw down, unlikely oil prices will
rebound.
Reported by ISA Intel via Oil
& Energy Insider. But beyond these types of crude oil inventories,
there is another type of oil storage: fully loaded tankers anchored offshore,
waiting for the oil price to rise.
How many of these tankers are there? Bob Miller, author of several books,
including Kill
Me If You Can, You SOB, sent me his first-hand observations from a
33-day cruise he’d taken from the Eastern then Western Caribbean, through the
Panama Canal and on to Canada.
Both St. Lucia and Aruba were loaded with ships. I think we pulled into
every deep sea port in Mexico on the way. We actually had to work our way
through them to get into some ports. I have taken two world cruises and have
never seen this many cargo ships at anchor. They reminded me of WWII pictures
of supply ships.
At first it was only the guests who were talking about all the tankers
anchored offshore wherever we went. I guess the captain was asked about this
so many times that he decided to make a public announcement. He said that
most of the tankers were from Saudi Arabia and were having to wait until
storage tanks were low enough to unload.
One big tanker had a sign that read, “Arrived 4/12/15. God only know when
we’ll depart.”
This speculative inventory of crude oil is lurking everywhere, ready to be
dumped on the market without notice as soon as prices rise far
enough, or when speculators are forced to sell, practically guaranteeing
that prices will get hammered down over and over again. And how low can
the price of oil go under these conditions? To ludicrously low levels – just
like US natural gas.
So is this the Death of the Petrodollar? Read… Petrodollar
Reflux to Hit Treasuries, Other Assets
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