Analysts using deception to keep oil price high

All the indicators suggest that global crude oil market is suffering from supply glut, mainly because of high shale oil production. Nothing seems to be moving oil price in any way other than Sino-US trade war. The western media is still trying to prove that very thing hinges on the two powerhouses striking a deal, be it global economic growth or oil demand. Any attempt to try to create bullish sentiments seems completely artificial and far away from ground realities.

The markets appear to have turned decidedly bearish with supply/demand imbalances drowning out everything else to the extent that even an epic event, attack on Saudi Aramco oil facilities proved storm in a cup of tea. The event that could have caused the biggest supply disruption in the history only provided a temporary support for prices. 

The western media is still busy in creating illusion by suggesting several scenarios that could induce rally in oil markets and put prices on upward trajectory once again. It is suspected that once a trade deal is reached, then geopolitical risk will again be able to create upsets and the often used recipe will be the rig count, which often creates the highest deception.

During the first week of November 2019, hedge fund bets on US benchmark, WTI that took its price to new highs. Even though US shale producers are pumping crude like crazy and adding to supply, hedge funds see reduced drilling as a sign of lower production next year. 

It can’t be ruled out that western media will use three scenarios for pushing oil prices higher in the near-and mid-term:

Sino-US deal

The long-running trade war between the world’s two biggest economies has brought about a general malaise to the global economy. Negotiations between Washington and Beijing have been long, intermittent and protracted with plenty of confusion.

It is often said, all’s well that ends well - finally, there seems to be some light at the end of the tunnel after the Trump-led team announced they have finalized ‘Phase One’ of the trade negotiations. Oil markets have largely remained indifferent, underlining just how much damage the trade spat has wrought on the global economy. Maybe all those platitudes about confidence bouncing back after an initial deal were a touch optimistic.

Geopolitical Risk

Rising geopolitical risks, particularly in the Middle East - home to more than 60 percent of the world’s oil reserves is bullish for oil. Tensions between Iran and Saudi Arabia reached a boiling point following the 14th September attacks on Aramco’s oil facilities. The New Iran Deal remains a highly emotive issue. Western media alleges Iran has kicked off another round of uranium enrichment. The International Atomic Energy Agency will release a new report, which will clarify whether Iran has been complying with its commitments or not.

The European Union is desperate to forge a new nuclear deal with Iran to replace the 2015 deal that Trump had quit last year. The EU is trying to create a Special Purpose Vehicle that can help the bloc circumvent US sanctions and continue buying Iranian oil. So far, it’s clear the sanctions are working, with oil exports from Iran on a continuous decline.

In the highly likely event that Trump and his European allies are unable to forge a new deal, tensions between Iran and Saudi Arabia are likely to escalate. While chances of an all-out war with the US or Saudi Arabia appear slim, tensions in the region are likely to remain high and increase the supply risk.

Declining inventories and rig count

In late October, oil prices surged 3 percent after the US Energy Information Administration reported a surprise decline in US crude inventories. The organization revealed that on a seasonal basis, gasoline demand in the US has been at its highest since 1991. Meanwhile, US oil rig count has been trending south for many months now. The latest Baker Hughes report showed a decline of 5 rigs from the preceding week to 817, and a massive fall from the 1,057 rigs reported at a corresponding point last year. So far, production has continued to rise amid the rig count collapse only because drillers are focusing on bringing the considerable fracklog of uncompleted wells online. Obviously, this can only go on for so long, and at some point, production is bound to get compromised. Right now, it’s the perfect time to play the short-term buy and sell game, buying on the dip and selling on the spike, as long as WTI is trading at a bottom range of between US$49 to US$55.

US shale producers to gulp Saudi market share of oil

After OPEC lead by Saudi Arabia and Russia arrived at a consensus to contain oil production, I wrote that the real threat for Saudi Arabia was not Iran but the US shale producers. Some of my critics said that I suffer from US-phobia and try to portray whatever happens on the earth as part of US conspiracy.

This morning when I read a news from Reuters about increasing number of rig counts in the US, it gave me a feeling that I was not mislead by the western media but right in saying that with the hike in crude oil price, rig count in the US would jump dramatically.

According to the Baker Hughes, US energy companies have added oil rigs for an eighth week in a row as crude oil prices rose to a 17-month high. During the week ended 23^rd December 2016 the total rig count went up to 523, the most since December 2015.

The report also said that by May this year rig count had plunged to 316, from a record high of 1,609 in October 2014. This decline could be attributed to crude oil price that plunged to US$26/barrel in February 2016 from US$107/barrel in June 2014.

The report also indicated that oil and gas rigs count would average above 500 in 2016, around 750 in 2017 and above 900 in 2018. This confirms the news that while other oil producing countries curtailed fresh investment, US shale producers continued production without filing bankruptcy under Chapter 11.

The Reuters news should be an eye opener for oil producing countries, particularly Saudi Arabia, Iran and Iraq. They should not be the first to cut production and let the crude oil price go up. If they want to keep US shale producers under pressure, they will have to keep crude oil price below US$35/barrel. This may be pains taking but the only option to bring down the number of active rigs in the US. They should also keep an eye on E&P companies filing bankruptcy under Chapter 11.

In response to this I have received following response from Mark S. Christian, ​President, Chris Well Consulting.

I read your article, "US Shale Producers to Gulp Saudi Market Share of Oil". This article implies a skyrocketing North American rig count, but the U.S. did not add 523 rigs during the week ending December 23, 2016. In fact, the rig count in the U.S. is growing only modestly at the moment. Last week the U.S. added only 16 rigs in total - 13 rigs exploring for oil, and 3 rigs exploring for natural gas. This brings the total rig count to 523, but your article implied 523 rigs were added during this past week, and that is not correct. Maybe it was an editorial mistake by the publisher - which said: "During the week ended December 23, 2016 the total rig count went up by 523, the most since December 2015".It should have said ..."the total rig count went up to 523", implying the aggregate total reached this number.

I have been in the well-servicing business for more than 30 years and during this time operated workover rigs.​ A well service company provides well completion and maintenance services and​ demand for rigs go up and down with the oil price. When the oil price recently fell below $30USD/Bbl - my​ workover rigs were sitting idle. Oil companies could not afford to work on their wells, so they let them go offline. As prices moved above $45/Bbl, oil companies started calling again - and our workover rigs slowly began moving back into the field. The same holds true for American drilling rigs. Higher prices = higher U.S. rig utilization.

This supports your hypothesis that - 1) the U.S. rig count is a threat to the Saudi-led production cuts and 2) American shale may be a longer term threat to OPEC's market position.  Your warning to Iraq, Iran, and Saudi that raising prices via production cuts is not in their long-term interest, is correct, although I surely hope they do not change course.

Saudi guided OPEC into underestimating the staying power of shale-focused oil companies in the United States who were built on junk bonds and high-interest debt. Most were developing fields that were not economic below $60/bbl - and the Saudi's knew this. Riyadh miscalculated by expecting these financially weak companies to fold up quickly once prices fell below lifting costs. That did not happen, many went into Chapter 11 bankruptcy which allowed them to discharge their bond debt and emerge with a cleaner balance sheet.

El Naimi expected very steep decline curves for U.S. shale production, however, this did not materialize and North American shale production turned out to be more resilient than even the American oil companies forecasted. El Naimi also expected the shale market to collapse on itself as he viewed U.S. shale production to be inefficient. It was - until market forces went to work and held the unconventional resource market together much longer than the Kingdom's cash reserves or El Naimi's ideas were able to bear. 

In November 2014, the bottom fell out of the US oil market and caused U.S. service costs to deflate - my rig rates fell 30% in 60 days. What most outside the U.S. don't understand about the American market is when things are good we can ramp up drilling and well completion quickly​, but when things turn bad - cost cutting and a lazer-focus on efficiency enable us to sacrifice profits and survive until the market rebounds.

El Naimi's low-price strategy forced American E&P's to cut wasteful spending and exercise more discipline over their profit and loss. This helped​ U.S. production become more efficient - and lowered U.S. lifting costs. Now fields that were unprofitable when crude prices fell below $60/bbl are profitable at $45/bbl.

The big question that everyone wants to know, (and relate directly to your warnings to OPEC in your recent article) is: How long will it take the​ U.S. to ramp up production enough to offset OPEC's production cuts? Can American production actually grow large enough to begin driving global oil prices down? If that happens, OPEC will no longer be the swing producer we have relied on for so many years to correct bubbles in the market.

If the U.S adds 16 rigs per week over the next 52 weeks - the resulting increase of 832 new rigs in the next year will not affect America's oil production to an extent it will make a noticeable change to the global oil market. Over the years I have noticed that the U.S. market needs 2-3 years of booming exploration and development activity before the global market takes notice. I do agree with your assumption that production growth in the U.S. may swallow up Saudi's recent production cuts, but it will take 24-36 months before many people take notice.

Why analysts are talking about declining oil prices only?

Somewhere I read a story about the energy giants ‘seven sisters’ which virtually control the global economy. All analysts are talking about declining earnings of these companies but not about the benefits of low oil prices. The same is also true about Pakistan where analysts are too worried about earnings of less than half a dozen oil & gas exploration companies but hardly demand the government to stop persistent hike in taxes on petroleum products.

A few months back I raised a question in one of my blogs, who are the beneficiaries of declining oil prices? At that time my own inference was that the US is the biggest beneficiary, being the largest consumer of energy products. After lapse of a few months I still withstand my point of view. I even go to the extent of saying that not only all other oil producing countries are plunging into serious financial crisis but Saudi Arabia and Russia are worst hit. Lower oil prices may keep proceeds from oil export low for Iran but it may gain the most after easing of sanction it had endured for more than three decades. Its non-oil exports are likely to increase substantially and it may also succeed in attracting enormous foreign direct investment in virtually every sector. 

Declining oil prices have enabled the US in increasing its strategic reserves, oil imports remain high and indigenous oil production still hovers at record high levels, above 9.2 million barrels a day. Reportedly the US crude inventories have surpassed the 500 million barrels milestone. Two of the global benchmarks WTI and Brent bounced up and down throughout the week ended on 5th February. However, faltering global economies offer a chance to the US Fed not to hike the interest rate, resulting in weak dollar and pushing oil price higher again. 

The western media is now trying to create an impression that the collapse in oil prices is now bleeding over into the broader global economy. They talk about the ongoing down turn in oil exporting countries, from Saudi Arabia to Russia, Venezuela, Iraq, Nigeria, and more. They have strange rationalization that cheap energy should bolster consumption, but the drop in commodity prices has been so sharp that questions continue to arise about the creditworthiness of some oil producers, Venezuela tops the list. With billions of dollars in debt due this year a rapidly shrinking ability to deal with the crisis, a debt default may not be too far off.

Citigroup added its voice to those concerned about the health of the global economy, citing four interlinked forces – a strong U.S. dollar, low commodity prices, weak trade, and soft growth in emerging markets – for the sudden fragility and potential for a global recession. "It seems reasonable to assume that another year of extreme moves in U.S. dollar (higher) and oil/commodity prices (lower) would likely continue to drive this negative feedback loop and make it very difficult for policy makers in emerging markets and developing markets to fight disinflationary forces and intercept downside risks," Citigroup analysts warned.

ConocoPhillips (NYSE: COP) made news this week when it became the first US-based oil major to slash its dividend. Italian oil giant Eni (NYSE: E) was the only other oil major to have done so – it cut its dividend almost a year ago. ConocoPhillips cut its dividend by 65 percent this week, and the company’s CEO argued that the move would save $4.4 billion in 2016.

The oil majors are having trouble covering spending and also their shareholder payouts with their underlying cash flow. By and large, they are making up for the shortfall with new debt. Chevron took on an additional $9.6 billion in debt to cover dividend obligations, ExxonMobil added $10.8 billion in fresh debt, and BP took on another $4.6 billion. At some point, something has to give. S&P downgraded a long list of oil companies this week, including Chevron and Shell. It also put BP and ExxonMobil on review for a possible downgrade.

A quick rundown of the full-year earnings from some of the oil majors:

•    BP (NYSE: BP) lost $6.5 billion in 2015, one of the company’s worst on record.
•    ConocoPhillips (NYSE: COP) posted a loss of $4.4 billion in 2015.
•    ExxonMobil (NYSE: XOM) saw profits halve to $16.2 billion.
•    Royal Dutch Shell (NYSE: RDS.A) posted a profit of $3.8 billion, down 80 percent from 2014.
•    Chevron (NYSE: CVX) reported a loss of $588 million, its first loss since 2002.