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Page added on April 21, 2015
Saudi Arabia’s Oil-Price War Is With Stupid Money
Saudi Arabia is not trying to crush U.S. shale plays. Its oil-price war is with the investment banks and the stupid money they directed to fund the plays. It is also with the zero-interest rate economic conditions that made this possible.
Saudi Arabia intends to keep oil prices low for as long as possible. Its oil production increased to 10.3 million barrels per day in March 2015. That is 700,000 barrels per day more than in December 2014 and the highest level since the Joint Organizations Data Initiative began compiling production data in 2002 (Figure 1 below). And Saudi Arabia’s rig count has never been higher.
Figure 1. Saudi Arabian crude oil production and Brent crude oil price in 2015 U.S. dollars. Source: U.S. Bureau of Labor Statistics, EIA and Labyrinth Consulting Services, Inc.
Market share is an important part of the motive but Saudi Minister of Petroleum and Mineral Resources Ali al-Naimi recently emphasized that “The challenge is to restore the supply-demand balance and reach price stability.” Saudi Arabia’s need for market share and long-term demand is best met with a growing global economy and lower oil prices.
That means ending the over-production from tight oil and other expensive plays (oil sands and ultra-deep water) and reviving global demand by keeping oil prices low for some extended period of time. Demand has been weak since the run-up in debt and oil prices that culminated in the Financial Collapse of 2008 (Figure 2 below).
Figure 2. World liquids demand (consumption) as a percent of supply (production) and WTI crude oil price adjusted using the consumer price index (CPI) to real February 2015 U.S. dollars, 2003-2015. Source: EIA, U.S. Bureau of Labor Statistics, and Labyrinth Consulting Services, Inc.
(click to enlarge image)
Since 2008, the U.S. Federal Reserve Board and the central banks of other countries have further increased debt, devalued their currencies and kept interest rates at the lowest sustained levels ever (Figure 3 below). These measures have not resulted in economic recovery and have helped produce the highest sustained oil prices in history. They also led to investments that are not particularly productive but promise higher yields that can be found otherwise in a zero-interest rate world.
Figure 3. U.S. Federal Funds rates and WTI oil prices in January 2015 U.S. dollars. Source: U.S. Bureau of Labor Statistics, EIA and Labyrinth Consulting Services, Inc.
(Click image to enlarge)
The quest for yield led investment banks to direct capital to U.S. E&P companies to fund tight oil plays. Capital flowed in unprecedented volumes with no performance expectation other than payment of the coupon attached to that investment.
This is stupid money. These capital providers are indifferent to the fundamentals of the companies they invest in or in the profitability of the plays. All that matters is yield.
The financial performance of most companies involved in tight oil plays has been characterized by chronic negative cash flow and ever-increasing debt. The following table summarizes year-end 2014 financial data for representative tight oil-weighted E&P companies.
Table 1. Summary of 2014-year end financial data for tight oil-weighted U.S. E&P companies. Money values in millions of U.S. dollars. FCF=free cash flow (cash from operations plus capital expenditures); CF=cash flow; CE=capital expenditures. Source: Google Finance and Labyrinth Consulting Services, Inc.
(Click image to enlarge)
Some rationalize the negative free cash flow as an expansion of capital base that will result in future profits. The following table shows that over the past 4 years, tight oil negative cash flow increased and has reached a cumulative of more than -$21 billion for the representative companies. Almost half of that negative cash flow took place in 2014.
Table 2. Summary table of cash from operations and capital expenditures for tight oil-weighted U.S. E&P companies. Values in millions of U.S. dollars. Source: Google Finance and Labyrinth Consulting Services, Inc.
(Click image to enlarge)
The average U.S. oil price from January 2011 through year-end 2014 was $95 per barrel. First quarter 2015 performance at $48.50 WTI will be a disaster that makes the previous 4 years look good.
How long do the losses continue before the cheerleaders of shale plays admit that the enterprise is not profitable? Only the more diversified integrated companies like ConocoPhillips, Marathon, and OXY show meaningful long-term positive cash flow. If companies could not show positive cash flow at $95 per barrel, what price is necessary and what will that do to the world economy?
Some of my readers dispute the poor economics of these plays based on incorrect notions of break-even profitability–some believe that tight oil plays are profitable at $35 per barrel oil prices (see comments from my last post).
Following are two slides taken from Schlumberger CEO Paal Kibsgaard’s recent presentation at the Scotia Howard Weil 2015 Energy Conference held in New Orleans. These slides present a well-informed and objective view of how tight oil plays compare to other plays.
In my Figure 4, Mr. Kibsgaard shows that the average break-even price for tight oil plays is about $75 per barrel. By comparison, Middle East OPEC break-even prices are less than $10 per barrel. Other conventional oil plays break even at less than $20 per barrel.
Figure 4. Slide from Schlumberger CEO Paal Kibsgaard’s presentation at the Scotia Howard Weil 2015 Energy Conference.
(Click image to enlarge)
In my Figure 5, Mr. Kibsgaard shows Schlumberger’s assessment of drilling intensity or efficiency. For nearly equal oil-production volumes of about 11 million barrels per day, U.S. oil producers drilled more than 35,000 wells and 297 million feet of hole compared to 399 wells and 3 million feet of hole for Saudi Arabia.
Figure 5. Slide from Schlumberger CEO Paal Kibsgaard’s presentation at the Scotia Howard Weil 2015 Energy Conference.
(Click image to enlarge)
U.S. companies drilled almost 100 times more wells to reach the same daily production as Saudi Aramco. Strident claims of increased efficiency by tight oil producers sound absurd in this context.
Prolonged low oil prices will prove that tight oil plays need at least $75 per barrel to break even. When oil prices recover to that level, only the best parts of the tight oil core areas will be competitive in the global market. As production declines from expensive tight oil, oil sand and ultra deep-water plays, inexpensive Saudi oil will gain market share.
Saudi Arabia is not trying to crush tight oil plays, just the stupid money that funded the over-production of tight oil. Too much supply combined with weak demand created the present oil-price collapse. Saudi Arabia hopes to prolong low prices to benefit their long-term needs for market share and higher demand.
20 Comments on "Saudi Arabia’s Oil-Price War Is With Stupid Money"
shortonoil on Tue, 21st Apr 2015 6:15 am
http://www.thehillsgroup.org/depletion2_022.htm
marmico on Tue, 21st Apr 2015 9:12 am
Just looking at Berman’s chart of the effective funds rate and the real price of oil. Why doesn’t he show the real fed funds rate?
That’s why you discount the narrative of a geologist when it comes to economics or finance.
Since the 2001 recession, the average real fed funds rate is flat to negative. If an investor desires a higher rate of return relative to the short run risk free return then you need to search for yield. Get over it!
I got a hunch that LTO investors searching for yield have made and will make going forward more risk-adjusted money than Berman’s money market account.
GregT on Tue, 21st Apr 2015 9:40 am
“That’s why you discount the narrative of a geologist when it comes to economics or finance.”
Yet another case in point why the eCONomists have it so wrong. Economics and finance are both reliant on geology.
marmico on Tue, 21st Apr 2015 10:16 am
Okay. Do you think Artie the Geologist will suck or not suck when his February 17, 2015, prediction of a 600,000 bp/d decline in U.S. LTO production turns out to be bullshit?
Shall we use July 1 for the suck or not suck date.
GregT on Tue, 21st Apr 2015 10:40 am
Marmico,
I could care less about whether ‘Artie’s’ prediction turns out to be correct or not. Oil is a finite resource, which just happens to be the lifeblood of our economic and financial systems. The decline is coming, it is only a matter of time.
marmico on Tue, 21st Apr 2015 10:59 am
Oil is a finite resource
Wow, former big city condo owners now ginseng farmers are so brilliant. There is oil in place, recovery factor of oil in place. Both of those items are stocks. And then there are flows of stocks.
The latest flows of stocks data point (October 2014) from the EIA says 78.967 mb/d of crude including condensate. Peak what! Of course, the decline has been coming since 1859.
So does Artie the Geologist suck or not suck on July 1?
shortonoil on Tue, 21st Apr 2015 11:03 am
Since the major debut of the Shale industry in 2008 the US has produced 5.65 GB of LTO. During that same period the industry has racked up over $1 trillion in debt, or $177/barrel more than it has produced in revenue. Obviously, shale oil is a losing proposition!
So, who are the morons that bought this dead horse at the starting gate. It turns out to be none other than the same morons who sold MBS all over the world because housing prices always go up, and then needed to be bailed out to the tune of $6 trillion. Wells Fargo, Bank America, and others of their ilk have invested heavily into shale because there was money to made in transaction fees. They also sold them a lot of derivatives to cover them in case the price went down. It did, and they lost big time.
The TBTF banks are now sitting on a lot of shale assets. Assets that are losing daily; assets that they desperately want to get rid of. If shale collapses entirely, before they can unload those assets, they are going to be eating some mighty big loses. So in the meantime they will find buyers for more worthless equity in an industry that died at the gate 7 years ago. Berman thinks it is stupid money at this point behind shale; we think he is only half right. More likely it is stupid, desperate money!
Davy on Tue, 21st Apr 2015 11:08 am
Marmi, we are giving you some serious market mojo and you are looking a gift horse in the mouth stupid. Short the market on this information we are giving you. The rest of you numb nut investor buddies that read Forbes are going to get their clock cleaned and you will be rich. Isn’t that what you want Marm? To be rich?
marmico on Tue, 21st Apr 2015 11:23 am
Sorry Doomer-Davy, Artie the Geologist (ASPO director, Oil Drum editor, all round good guy) is going to suck. It is simple confirmation bias.
In any event, the quart shy of oil ETP buffoon has zero credible evidence that the shale industry racked up $1 trillion in debt.
Davy on Tue, 21st Apr 2015 12:11 pm
Marm, doesn’t Freddy have a chart on shale debt so you can confirm that statement. Usually you slap us peakers and doomers around with charts.
marmico on Tue, 21st Apr 2015 12:41 pm
Marm, doesn’t Freddy have a chart on shale debt so you can confirm that statement
Nope, shale oil is a rounding component of GDP and total debt.
In any event, I wait with baited breath for the quart shy of oil buffoon to produce the trillion dollar evidence; in other words, the usual buffoonery.
Apneaman on Tue, 21st Apr 2015 1:29 pm
Baker Hughes plans new job cuts after quarterly loss on US$772M charge
http://business.financialpost.com/news/energy/baker-hughes-plans-new-job-cuts-after-quarterly-loss-on-us772m-charge
BobInget on Tue, 21st Apr 2015 1:49 pm
Either the Saudis ran out of Jet Fuel or Goodwill
http://www.huffingtonpost.com/2015/04/21/saudi-yemen-airstrikes-ended_n_7110228.html
DUBAI, April 21 (Reuters) – The Saudi-led coalition bombing Yemen announced on Tuesday the end to a military operation that pounded the Iran-allied Houthi rebels for more than three weeks, a statement read on Saudi-owned Arabiya TV said.
The alliance had achieved its military goals in Yemen through the campaign dubbed “Storm of Resolve” and will now begin a new operation called “Restoring Hope,” it said.
The mission, the statement said, would focus on security at home and counter-terrorism, aid and a political solution in Yemen. (Reporting By Noah Browning and Mostafa Hashem; Editing by Janet Lawrence)
marmico on Tue, 21st Apr 2015 1:51 pm
Ya, Texas and North Dakota hurt, Washington and Florida don’t.
I want cheap gasoline. Thank you for Artie the Geologist stoopid money.
Davy on Tue, 21st Apr 2015 1:55 pm
Marmi, what about all those distressed junk bonds in the oil sector? Your favorite site ZH had a good article on that.
marmico on Tue, 21st Apr 2015 2:12 pm
So what is the second, the minute, the hour, the day, the week, the month, the quarter, the year when oil extraction surpasses 80 mb/d. You nutters are still stuck on 74 mb/d 10 years ago.
Primary Energy Consumption per Real Dollar of Gross Domestic Product.
shortonoil on Tue, 21st Apr 2015 2:12 pm
“The International Energy Agency (IEA), in a report of July 29, 2014, made clear that since 2008, the oil industry has been borrowing about 20% of the cash it needs, or about $100 billion a year, net new debt.”
Most of that has been by the US shale industry.
“an estimated 35% of all U.S. capital investment since 2009.”
Eight times $100 billion equals $800 billion, plus prior 2008 debt, plus interest on existing debt puts it up around $980 billion. — looks like almost $1 trillion!
http://www.larouchepub.com/other/2014/4150oil_trigger_crash.html
As we have been saying, the petroleum industry is in trouble. Less, and less of it is now able to demand a price high enough to cover its cost of production. The long term price that it will receive is, also, going down!
http://www.thehillsgroup.org
BobInget on Tue, 21st Apr 2015 2:15 pm
I’ve learned a new word in the last couple of days.
That word; ‘power’. Power is the new synonym
for ‘oil’ the apparently forbidden name of a powerful hydrocarbon.
Next time you hear or read reports out of Yemen
or Syria talk about “this Yemen war is all about power” Or “power struggle” you can be certain it’s really bout oil.
Apneaman on Tue, 21st Apr 2015 2:26 pm
marmico-nony
yes they moved the goal posts 10 years ago.
How changing the definition of oil has deceived both policymakers and the public
http://resourceinsights.blogspot.ca/2012/07/how-changing-definition-of-oil-has.html
Apneaman on Tue, 21st Apr 2015 2:45 pm
US Military Spending Still Up 45% Over Pre-9/11 Levels; More Than Next 7 Countries Combined
“Saudi Arabia is now the fourth-biggest military spender on the globe, which in its case means spending nearly $80 billion last year buying weapons, mostly from the U.S., and most notably including fistfuls of F-15 fighters and top-of-the-line attack helicopters.”
https://firstlook.org/theintercept/2015/04/20/u-s-military-still-spending-45-911-much-next-7-top-spending-countries-combined/