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Page added on August 17, 2015
What is the price of oil telling us?
Market fundamentalists tell us that prices convey information. Yet, while our barbers and hairdressers might be able to give us an extended account of why their prices have changed in the last few years, commodities such as oil–which reached a six-year low last week–stand mute. To fill that silence, many people are only too eager to speak for oil. And, they have been speaking volumes. So much information in that one price!
First, as prices fell last year when OPEC refused to cut its oil production in the face of slowing world demand, the industry kept saying that it could continue to produce from American tight oil fields at around $80 a barrel and be profitable. Then, as prices fell further, the industry and its consultants assured everyone that while growth in tight oil production would slow, it would still be profitable for the vast majority of wells planned.
Petroleum geologist and consultant Art Berman is probably the best representative from the skeptical camp. For many years Berman has been pointing to the high cost of getting fracked oil out of the ground. And, those costs led to negative free cash flow for most tight oil operators for several years in a row–that is, they spent considerably more cash than they took in, making up the balance with debt and stock issuance. Not surprisingly, the operators took that money and kept drilling as fast as they could.
It was a recipe for oversupply and a crash, one that is now threatening the solvency of many fracking-dependent U.S. oil companies.
As if to the rescue, the giant consulting firm Deloitte called a bottom in the oil price when U.S. futures prices hit $48 a barrel on February 4–a little prematurely it seems. Friday’s price for September futures on the NYMEX closed at $42.50.
Not to worry. Two major international oil companies, Chevron and Exxon, declared back in December that $40-a-barrel oil won’t be a problem for them. One of the sources cited was Exxon CEO Rex Tillerson whose company has had trouble replacing its oil reserves for more than a decade at much higher average prices. In fact, oil majors have been cutting exploration budgets since early 2014 when oil prices were still hovering above $100.
It seemed as if the message that the price of oil was sending from about the middle of last year until just recently was going unheeded by American oil producers. U.S. oil production kept rising despite dramatically falling prices. But when production growth finally stopped in June, there was hope that less supply would be weighing on prices, and predictions abounded that the price would go higher.
The reasoning behind this call was that continuing economic growth worldwide would combine with stagnating growth in oil supplies to squeeze the market enough to move prices up.
While low oil prices were supposed to “spur the global economy” according the the International Monetary Fund, The Economist magazine took a more measured view. It also looked at the decline in employment and investment in oil which had previously been booming.
High-cost oil from the Canadian tar sands is also taking a significant hit as investment is slashed in the face of low prices.
With the recent renewed slump in oil prices, the industry is trotting out the same kind of stories it trotted out when oil was around $80 and then $60. Oil at $30 a barrel will be no problem for a special breed of drillers in the Bakken Formation of North Dakota, we are told. If you actually read the story, it is stating the obvious: That break-even prices vary from well to well. And, the writer refers to “realized” prices, not the NYMEX futures price. It turns out that because Bakken lacks pipelines for transporting oil, it must use oil trains. That’s expensive.
So, those buying oil from North Dakota take the freight costs into account. The average realized price on Friday $28.75 for the type of oil extracted from Bakken’s deep shales in North Dakota. While wells that are already drilled often produce regardless of price because those who operate them must pay back debt, it is doubtful that very many new wells would be profitable at this price. And, it is worth noting those investing their capital do not as a rule seek to break even. A break-even proposition usually sends them looking elsewhere to invest their money.
Beyond this, there is a broader consideration. And, it is something which very few people seem to be talking about when it comes to all the information that is supposed to be conveyed by the oil price.
As the world’s central energy commodity, oil is a good indicator of economic activity. With the nearly universal conviction that the previous bounce in oil prices to around $60 signaled a stronger economy and thus stronger oil demand, logic would dictate that we now consider the opposite: That the new slide in oil prices is signaling new weakness in the world economy. If so, it’s the kind that ought to frighten even the optimists this time.
Having said all this, it might be wise to take any day’s price reports in the same way as the low or high temperatures on a particular day. A cool morning in summer does not mean winter is right around the corner. Nor does a hot day in mid-winter spell the end of the season. What’s more important is to look at the overall picture to see if the season is changing–or even more important, if the climate itself has shifted, both literally and metaphorically.
That takes a lot more analysis than the daily market reports can provide and than most people–even those whose job it is to follow markets–have patience for.
In that regard the long view suggests that the acute investment slump in oil which is unfolding will lead to tight supplies in a few years (because of all the wells that are not going to be drilled to replace the depletion from existing wells). That would set us up for a price spike at some point as it takes a considerable amount of time to ramp up new drilling after a long period of decline.
All this assumes that the current seeming weakness in the economy doesn’t morph into something that would cause a long-term economic decline or stagnation which would keep oil prices low for a much longer period.
19 Comments on "What is the price of oil telling us?"
BC on Mon, 17th Aug 2015 6:26 pm
The crash in the price of oil and other commodities is an unequivocal indication of (1) diminishing returns to growth of credit to increase growth of resources to sustain growth of real GDP per capita and (2) that, as a result, the world is back in recession as in 2007-08.
The financial markets are not reflecting global recessionary conditions per capita because they are not supposed to do so in a hyper-financialized economy (“the economy” is the stock market), as in the case in 2001 and 2008 when the US stock market did not roll over and crash until 2-3 quarters AFTER the US economy had entered recession and 9/11 and the Lehman take down by Goldman Sachs occurred.
The next inevitable debt-induced global crash will align with that of Japan in the early 2000s and the US and rest of the world in the late 1930s to early 1940s.
That this is the implicit outcome suggests that the powers that be and their bankster oligarchs and technocratic facilitators will resort to any and all means to support the hyper-financialized, increasingly costly and unproductive system to sustain the credibility, legitimacy, power, and authority of the top 0.001-1% at the cost of everyone else for as long as they can get away with it.
The closest historical parallels to today are the Elizabethan defeat of the Spanish Armada, the French and American Revolutions, the collapse of the Weimar Republic and rise of Nazism, and the collapse of the Soviet Union.
https://www.foreignaffairs.com/articles/united-states/2010-03-01/complexity-and-collapse
The prevailing zeitgeist conditioned and reinforced by the rentier elite top 0.001-1% from the top down is classic historical decadence, which is the precondition for eventual collapse of empire and the underlying society.
Davy on Mon, 17th Aug 2015 7:06 pm
BC, this hyper financialization might continue longer than expected. There is nowhere for money to go. The system is bound up too close for any country to stray too far. The sheeples still have groceries, sports, and gadgets.
The status quo is still normal enough to an untrained eye. The powers that be have every reason to maintain this order so they are not going to educate the sheeples of the dangers ahead. Food and fuel shortages will be the straw that breaks the camels back. They are a few years hence.
Apneaman on Mon, 17th Aug 2015 7:14 pm
More corporate welfare-socialism for the 1%ers.
The Canadian Government Paid $1M for Research to Promote the Tar Sands
http://motherboard.vice.com/read/the-canadian-government-paid-1m-for-research-to-promote-the-tar-sands?utm_source=mbfb
Boat on Mon, 17th Aug 2015 9:08 pm
Davy
BC, this hyper financialization might continue longer than expected. Food and fuel shortages will be the straw that breaks the camels back. They are a few years hence.
Davy, glad you finally came to your senses. Every year I look ahead I seem to see at least 5 years.
BC, You have 5 months and three weeks for your prediction of crash to come true. I’ll keep track for you.
Makati1 on Mon, 17th Aug 2015 10:45 pm
Why predict the timing of something we know is coming. Would it make your life easier if you knew the time and day of your death? I doubt it. But it would allow you to prepare and enjoy what you had left.
We all know that the collapse is coming and that it will likely lead to the human extinction event in this century. Why not prepare for the future today and then not worry about the timing?
“Failure to prepare is to prepare to fail”
rockman on Tue, 18th Aug 2015 11:27 am
“It seemed as if the message that the price of oil was…going unheeded by American oil producers. U.S. oil production kept rising despite dramatically falling prices.” No, it wasn’t going unheeded. Who would have a better handle on price future price expectations: folks who lives depend upon it and deal with it every minute of every day or some armchair quarterbacks? LOL? As potential weakness began to show not only did most companies not pull back but some even pushed ahead even harder. It’s truly astounding that so many folks think the oil patch was caught by surprise. The only question was when and not it. And folks need to remember who the shale players were: public companies. Pubcos that needed to increase their reserve books to boost stock prices regardless of the profit margin…or lack thereof.
Again it should come as a surprise to those that have always despised the oil patch: managers of the pubcos had a single undeniable goal: self-benefit. They had to keep drilling even if they expected the bottom to fall out of the market because 1) they got paid very well to do their jobs and 2) tell the board things will be going into the crappy so maybe our jobs/salaries/stock options should be cut??? So what if Company X goes bankrupt as long as I kept my $450,000/year job as long as possible and was able to cash out my stock options before TSHTF. As most know the Rockman has been dealing with pubcos…sometimes on a very “intimate” level) for 40 years. Do you think the Rockman hasn’t seen such motivations going all the way back to the 70’s? In the late 80’s I listened to the prez of a small pubco that laughed at the stupidity of some NY bond buyers that swapped their cash for his bonds that he knew would never get paid. And after TSHTF with that company I tried to get some of them to go after him but they didn’t want to bother since most of those companies got their kiss on the front end from the folks who actually invested the bonds. It was a better political move for them to ignore the situation. For liability reasons the Rockman couldn’t say much publicly. But on the stand under oath he would have been untouchable.
Trust me: human nature hasn’t changed in the last 4 decades. LOL. Many have greatly disliked the point I’ve made many times in the past. It really infuriated some of the editors at The Oil Drum. But regardless it’s still true: the oil patch ain’t your mommy…you and the country’s economy aren’t our responsibility any more than it is for any other portion of the industrialized economy. You need a tit to suck on go ask your Uncle Sam…that’s how he makes his living. LOL.
apneaman on Tue, 18th Aug 2015 5:19 pm
When Uncle Sam’s titty runs dry and the police and military are no longer getting paid they will say the same thing….I ain’t your mommy and you aren’t my responsibility. Some of them may still make a living protecting folks, but I doubt they are going to be impressed with anyones virtual portfolio or paper money or address. Hard resources or useful skills. You can already see it happening with the change in forfeiture laws – it’s payment for the police by other means in a shrinking economy. Anyone think they are going to stop doing it? Them and the Mexican cartel – meet the new boss, same as the old boss. It’s essentially what happened once the USSR collapsed. Gang rule then that clever fucker from the security state, Putin used them to take control. Now he’s the statesman – the new boss.
Davy on Wed, 19th Aug 2015 11:17 am
Wow, another day of making hay over on Zero Hedge:
The Next Leg Of The Commodity Carnage: Attention Shifts To Traders – Glencore Crashes, Noble Default Risk Soars
Nasdaq Drops Below 5,000 ‘Maginot’ Line;
One Word Defines This Era: Stagnation
What Today’s Oil Plunge To 2009 Levels Means For Earnings, In One Chart
S&P 500 Breaks Below Key Technical Support
Crude Plunges To Cycle Lows After Biggest Inventory Build In 4 Months Despite Ongoing Production Cuts
China Rushes To Inject Hundreds Of Billions In Liquidity To Offset Yuan Intervention
Stocks Are Tanking – Dow Down 200Pts, Near Monday’s Lows
“Low” Inflation Print Sparks Panic-Selling In Treasuries
Boat on Wed, 19th Aug 2015 3:28 pm
Davy,
Your so excited about a down period. Seen a 100 year history. Been a few of those. You ready to move up your crash target? BTW what is it.
GregT on Wed, 19th Aug 2015 3:33 pm
I’m sure that Davy has more to lose in this ‘down period’ than you do Boat. The difference between you and Davy? Davy isn’t skeer’d. He’s doing something about HIS future.
Davy on Wed, 19th Aug 2015 3:52 pm
Boat, I hate the fact that the fairytale must end. In my 50 plus years I have never had it so good. I miss the vigor of my youth but not the ignorance. I am on top of the world in so many ways. My youth was a blast but a struggle. I am now truly happy.
Boat I hear thunder and that means a shit storm is coming. I have done the research for 10 years now and I have come to the conclusion that life is going to change radically soon. That change will be painful and ugly. I accept this just as if I had been diagnosed with an incurable illness.
All my prepping may be in vain but it is a natural response to the undeniable adversity ahead. I accept that I will likely not make it to 85 or better like my grandparents. I accept mad max may rape and pillage the doomstead. I accept material discomfort and entropic decay coming to my life from collapse. I accept death.
It is surreal and liberating because it is honesty in a world of delusion and denial. Boat, happy face all you like but don’t offer me any of your snake oil I am not interested.
BobInget on Wed, 19th Aug 2015 4:03 pm
I hope this isn’t too much off topic.
Russia offers Iran Nuclear umbrella, of sorts.
(Press TV is Iran’e propaganda arm.)
http://presstv.ir/Detail/2015/08/19/425462/US-Israel-Iran-S300-missile-system-war
Iran is pressing Russia for S-300 air defense missiles. It’s my private belief Iran already has these missiles but could be looking for up-grades.The latest, calld S-400.
https://en.wikipedia.org/wiki/S-300_(missile)
Any bombing on Iran is by target content, a nuclear attack.Once that shit starts flying all over
nearby countries will also get dirty fall-out.
Israel is doing something heretofore unheard of.
I can’t recall a foreign nation dictating US foreign policy the way Israel is attempting.
38 Million dollars is being spent to knock out the nuclear agreement in Congress. If you watch TV you will see the commercials.
Davy on Wed, 19th Aug 2015 4:36 pm
Bob, I hope Iran gets the missiles. Last thing we need is a war with Iran and Isreal. The more arms in Iran the better. Israel is running out of options. Their PR campaign has failed. It is an election period so no drastic moves will be made by the U.S.
BobInget on Wed, 19th Aug 2015 4:40 pm
That Ashley Madison hack exposed thousands of Horny Holy Saudi men to the death penalty. Adultery in KSA is a capital crime.
I’ll bet no Saudi Real MEN, except gays and lesbians, lose heads over this.
If Religious Police murder anyone it will be foreign oil contract men or women. Let’s all pray the Ashley hack doesn’t slow exports.
So far Saudi Air raids have killed many thousand
Yemeni. Doubtless, at least half over eleven years, adulterated.(were raped)
So you see, our great Allie, the Saudis are not really such bad eggs, after-all.
Apneaman on Wed, 19th Aug 2015 4:53 pm
Bob, I’m loving it. It’s great entertainment to me watching this rotten culture exposed. Especially the masters of the universe and their managerial class.
Ashley Madison data will soon be accessible online, analyst says
Cheating site hack has ‘signatures’ of inside job, says Toronto technology expert
http://www.cbc.ca/news/canada/toronto/ashley-madison-data-will-soon-be-accessible-online-analyst-says-1.3196636
“We’re All Perverts”: The Prehistoric Origins of Modern Sexuality with Author Christopher Ryan
https://www.youtube.com/watch?v=N7vXX33C6Mg
BobInget on Wed, 19th Aug 2015 4:55 pm
Davy, Obama will get enough votes to sustain his veto. It’s almost certain Republicans and a few Dems will vote to kill the agreement.
It’s then we enter one of the most potentially dangerous periods of our shortened lives. If Israel and Saudi Arabia launch attacks on Iran, it’s all over.
Overly dramatic you say? There’s nothing boring about nuclear war.
Apneaman on Wed, 19th Aug 2015 5:06 pm
Conservative family values ROTFLMAO.
Family Values Activist Josh Duggar Had a Paid Ashley Madison Account
http://gawker.com/family-values-activist-josh-duggar-had-a-paid-ashley-ma-1725132091
BobInget on Wed, 19th Aug 2015 5:13 pm
Apneaman, Now we can fully understand
why far seeing Republicans outlawed Shariah Law in their home states. Nights get long in those boring little state cap towns.
http://www.jihadwatch.org
Adulterers may be stoned to death.
The verse that says to stone adulterers to death went
missing from the Quran, so says Umar, a companion of Muhammad and the second
caliph (ruled 634-644). But he left no doubt that this penalty was done under
Muhammad’s direction, and the sacred traditions and classical laws confirm it.
But a few rules of evidence must be followed, like confession of the adulterer
or four eyewitnesses. In some interpretations of the law, if a
woman is raped, but cannot produce four just and pious men who witnessed it,
then she is slandering the alleged rapist (or gang rapists) — never mind that
the four just and pious eyewitnesses did nothing to stop it, but stood there
and watched it.
Boat on Wed, 19th Aug 2015 6:44 pm
Prepping reflects being well informed, intelligent, rational, self-reliant, and pragmatic.
You act like the shiite and the sunni haven’t been repressing women and each other using religion is a surprise. Beheading, rape is just as prevalent in all areas. BAU for 1,000 years.
apenanman, wants to take out the entire middle class of canida for shopping. Mohammad/pol pot are in his dreams.