Who blinks first as oil buckles?
14 Nov 2014
BY YADULLAH HUSSAIN Financial Post firstname.lastname@example.org Twitter.com/Yad_FPEnergy
Who blinks first as oil buckles?
As oil prices slide, Western oilmen are reviving their long-cherished dream of slaying the OPEC dragon. Witness the tweet Tuesday by legendary U.S. investor T. Boone Pickens: “Don’t get distracted by falling #oil prices. We have #OPEC on the run. I say get an energy plan & finish them off.”
Meanwhile, the secretary-general of the Organization of Petroleum Exporting Countries, has urged members not to “panic” in the midst of an oil bear market.
The truth, however, is that nobody has an energy plan and everyone is panicking as Brent crude prices hit a four-year-low to US$80.58 per barrel.
No one is willing to show his hand, just yet. Canadian, Russian, Saudi, and U.S. producers all want to guard market share even if it means driving prices down further. Saudi Arabia’s decision to cut prices for its Asian customers in October was seen as a sign that it will fight for market share.
Canadian oil sands producers have their game faces on, too, with Suncor Energy Inc., Canada’s largest oil and gas company, boosting capital expenditure for next year.
“If it went to levels in the $40s, $50s, of course we’d have to reflect,” CEO Steve Williams told analysts on a conference call last month. “But right now, nothing we see will cause us to change course on that capital budget.”
Oil sands production is not under threat at prices just below US$80 oil — U.S. benchmark West Texas Intermediate closed at US$77.18 on Wednesday — but if the price falls below US$70 it may well become an issue, said Peter Howard, president of Canadian Energy Research Institute.
In a report this week, Calgarybased CERI noted that Canadian oil production forecast remains on track at US$85 per barrel.
However, Mr. Howard believes lower prices would affect “the bulk” of projects. While cookie-cutter expansions of 30,000-bpd from existing sites may roll on, new projects by new players will be the first to face issues.
“[Bigger players] will be watching and if there is any indication it is headed for serious trouble, they may delay some of the projects.”
Investors may also start asking questions. IHS Herold Inc. data shows Canadian capital costs have realized returns of 4% over the past few years, compared with 23% in the Middle East.
“The U.S. and Canada are the two worst areas in terms of margins,” Nick Cacchione, director at the energy consultancy, said in an interview.
“The primary reason for that is a lot of the [exploration and production] companies for the most part get rewarded in the stock market for growing production rather than making money.”
Canadian producers have spent 167% of cash flow since 2009, while profitability has been the worst globally since 2009, at under US$6 per barrel of oil equivalent, less than one-half of the worldwide average, IHS data shows.
Despite the unimpressive returns, Michael Cohen, energy analyst at Barclays PLC in New York, however, sees few already-sanctioned oil sands projects being put on ice.
“Projects that have not yet been sanctioned that are envisioned online in the 2015-17 time frame were small also and not likely to lead to a huge barrel impact (less than 200,000 bpd),” Mr. Cohen said in an email.
“What is likely to happen is that the projects that have yet to be sanctioned will likely see some delays in the development phase. This is what happened during 2008/09.”
Mr. Cacchione expects North American exploration and production companies to cut their capital expenditure for next year by about 15%-20% if prices remain in the US$80 range.
Indeed, U.S. oil producers are already “sweating” the latest oil price declines as Brent crude hurtles toward US$80 per barrel, notes Barclays.
While most analysts expect prices to rebound in 2015, a more precipitous drop cannot be ruled out.
“If prices do remain lower and fall to US$70 for all of 2015, half of proven and probable remaining U.S. tight oil reserves would be challenged,” Mr. Cohen noted in a Nov. 5 report.
U.S. oil production is expected to rise by 2.8-million barrels per day between 2014 to 2017 at US$90 per barrel, but that estimates drops to just over a million if oil prices edge towards US$65, Barclays analysis shows.
“International oil companies with deep-water facilities will be first to cut,” said Emad Mostaque, a strategist at London-based Ecstrat.
North American producers are not the only ones feeling the pinch. Russia’s net foreign earnings have declined due to lower prices and its geopolitical wrangling with Western countries.
There is, of course, plenty of speculation that OPEC and the influential Saudis have orchestrated the price collapse to hurt Iran and Russia and also squeeze U.S. shale producers in the bargain, but the cartel may not have the staying power it used to command.
The breakeven oil price needed to balance the budget — different from cost of production — has risen for all OPEC countries, including Saudi Arabia (to US$99.20 per barrel).
“The breakeven price would be higher still if Saudi Arabia cuts production significantly in response to lower prices,” warned Deutsche Bank.
While the Saudis have billions stored in international reserves in the event of a price collapse, the autocratic government has immediate and urgent obligations to create jobs and diversify the economy for a young, restive population and keep the revolution that rocked other Middle East nations at bay.
Citibank believes Saudi Oil Minister Ali Al-Naimi’s recent trip to Mexico suggests the kingdom is shoring up support from a non-OPEC producer before slicing a meaningful quantity of oil from markets.
Indeed, the Saudis may already be retreating. OPEC’s latest report notes Saudi Arabia’s production last month fell 69,900 barrels per day to a seven-month low of 9.6 million bpd.
“OPEC is irrelevant as the swing barrel as it has effectively split into the GCC [the six-nation Gulf states including Saudi Arabia, UAE and Kuwait] who have ample assets and space to cut, and everyone else, who need to pump as much as possible to pay for social spending programmes,” Citibank said.
According to a Barclays client survey, there is a 50% chance that OPEC’s Nov. 27 meeting would result in a 500,000-bpd cut, while others say the cut could be as much as 1.5-million bpd.
The Paris-based International Energy Agency expects OPEC members to increase their global market share to 49% by 2040 from 42% in 2013.
In other words, OPEC is hardly on the run, as much as Mr. Pickens would like us to believe. But the cartel may be the first to give ground, and live to fight another day.