Monday, March 9, 2020

The "OPEC+ Spat" -- Parts One And Two -- March 9, 2020

Updates

March 25, 2020: update.

March 16, 2020: hour-long energy podcast. Written summary here, with link to podcast.

March 10, 2020: hey, before we get started, can we clear up one myth regarding break-even prices for Saudi Arabia. One of my pet peeves is the meme/myth/worldview that Saudi has the cheapest oil in the world, that they can produce oil for $5 a barrel or some such thing. Not even close to accurate. According to S&P Global Platts the break-even price for Saudi Arabia is $83 for the Saudis, $51/Brent bbl for the Russians.]

Original Commentary

This is really, really cool.

Re-posting my initial comments from a few minutes ago:
This is incredibly cool. The OPEC+ spat between Saudi Arabia .... okay, break, break .... let's get one thing straight. There really is no OPEC+ --- there never was an "OPEC." OPEC was Saudi Arabia. So, there is not an OPEC+ spat. This is between Saudi Arabia and Russia. Period. Dot. Okay, I'm going to quit here. This requires a post of its own ---
Okay, so where was I?

How did we get here?
  • WTI drops from a high of $65 not so long ago to $31 today 
  • global equity and bond markets in meltdown
NOTE: due to the nature of my posting, the note below is confusing. I am talking about two different rooms. Hopefully that will make the note clearer (more clear?).

This is the snapshot taken today of the "second room," March 9, 2020, 9:30 a.m.: the snapshot has three players and one elephant --
  • the three players: 
    • Saudi Arabia
    • Russia
    • the US
  • Saudi Arabia and Russia see things fundamentally differently
    • it would be easier to explain this if Obama were president; it's more difficult to explain this with Trump as president -- unless one agrees that Trump made "the Obama mistake"
  • the elephant in the room, of course, is the coronavirus
For the past year or so, I've limited by Twitter account to "oil analysts" who really seem to be the best of the bunch. These appear to be the most followed "globally" focused analysts. They do not include US analysts focused on regional shale plays.

To say the least, I have found these "experts" incredibly lacking.

For the past two years these analysts have been quibbling over the impact Venezuela, Ecuador, Iran, and Libya will have on the (oil) market. Every time I saw a tweet on Libya it would almost make me go nuts. Ecuador? Are you kidding? Iran? It's been a non-player in this market for so long, I've almost forgotten about the country. But that's all those "analysts" were focused on.

They were missing the elephant in the room -- you know, the elephant before the coronavirus elephant. This time we're talking about the "first room." We're talking about the room the global oil analysts were watching: the room with Venezuela, Iran, Libya, and Ecuador. Sometimes, Brazil showed up. They were missing the room with Saudi Arabia, Russia, and the US. And that pesky elephant. It almost seems, in retrospect, that the most-followed experts on global oil markets were unaware of the "second room."

I'm going to quit here, purposely let folks catch up and see if they can guess where I'm going. Hint: I've talked about his often on the blog: it's a recurring theme on the blog. In fact, I think I started mentioning it when I first started the blog; certainly within a few years after starting the blog.

END OF PART I

Part Two

A pet peeve of mine: reading tweet after tweet after tweet by global oil experts for the past several years talking about Libya, Ecuador, Venezuela, and Iran with regard to global supply. Of the four, the experts were most obsessed with Libya. At best we were talking about 500,000 bopd gain or loss. Again, a global demand of 100 million bopd, five-hundred-thousand bbls is a rounding error (0.5%to be exact). North Dakota produces three times that amount every day. 

The experts consistently avoided the real story: when the price of oil drops below a certain point, it becomes an existential issue for Saudi Arabia. 

Another pet peeve: "everyone" talks about how cheap it is for Saudi Arabia to drill oil. It does not matter how much it costs for Saudi Arabia to produce oil. The fact is that the entire Saudi Arabian budget is based on oil. For years, the Saudis budgeted for $100 oil. I went back through the blog looking for posts along that line. I quit after going back through 2017.

Quick: what was the break-even price for Brent oil for Saudi Arabia -- based on their budgetary needs?

Answer: $92. Saudi Arabia needed $92-Brent oil to meet its budget. I got such a kick out of tracking this. No one else was talking about it. When Brent oil went below $90, Saudi Arabia said there was no concern; they could live on $80 oil. Then they dropped to $70 oil, and finally they even said they could make it on $60 oil. I assume we will soon hear that they can make it on $20 oil. Because it only takes $5/bbl to produce crude oil in the kingdom. LOL.

I've not seen any articles recently on the "break-even" price for Saudi Arabia based on its budget. My hunch: Saudi Arabia will say $60/bbl; in fact, it's probably closer to $80. But let's give them $60, just for the sake of argument. Hold that thought.

Where was Brent at the beginning of the year (2020)? Around $70? I don't know. Somewhere in that 
ballpark. One month ago, early-to-mid February, where was Brent trending? Toward $60. And it looked like it was getting worse.

For most of February, OPEC+ was arguing about the necessity of holding an interim meeting to discuss quotas to hold the price of oil. That didn't go well, but they finally held a meeting. It devolved into chaos. And no agreement. For purposes of discussion, it doesn't not matter why there was no agreement; the only thing that matters is that no agreement was reached.

Now, we come to a fork in the road. One fork takes us down a reasonably, thought-out response. The other road takes us down an emotionally-laden response.

Quick: how much were Saudi Arabia and Russia arguing about? I no longer remember if the original argument was about opening the spigots, maintaining the same OPEC quotas, or cutting production. But it does seem we were talking about a "give-or-take" of one million to onepointfive million bbls of oil on a daily basis. I'm open to more specific numbers but I'm not going to take the time looking for them. For me, the number that stuck in my mind, those sitting at the table were quibbling over one to onepointfive million bbls.

At this point, one can get into any number of op-eds about who said what, who was willing to compromise, who was not willing to compromise, who was right, who was wrong. That's all behind us now. The question for me is this: Saudi's heir to the throne made the unfortunate statement, and I'm paraphrasing, "Fine, if you don't want to help me on this, Saudi Arabia will open the spigots. We might even go back to 12 million bopd."

Certainly Prince MBS had to know what would follow if he said that Saudi Arabia would open the spigots. They did that in 2014 (or thereabouts) -- their trillion-dollar mistake.

All of this has been talked about extensively on the blog.

Leaders of countries are not known to lash out emotionally. Prince MBS, it seems, has been as disciplined as any leader currently in power. What would cause him to respond emotionally -- to say that he would flood the world with oil?

I think there's only one thing. The kingdom -- i.e., his own family, his father and the prince himself, the very House of Saud itself -- is at risk, a question whether it can even survive.

This is not a pretty picture.



The charts are not only not pretty, they are not reassuring (for the Saudis).

From wiki:
The succession to the Saudi Arabian throne was designed to pass from one son of the first king, Ibn Saud, to another.
King Salman, who reigns currently, first replaced the next crown prince, his brother Muqrin, with his nephew Muhammad bin Nayef.
In 2017, Muhammad bin Nayef was replaced by Mohammad bin Salman, King Salman's son, as the crown prince after an approval by the Allegiance Council with 31 out of 34 votes.
The monarchy was hereditary by agnatic (paternal) seniority until 2006, when a royal decree provided that future Saudi kings are to be elected by a committee of Saudi princes.
The king-appointed cabinet includes more members of the royal family.
This is a stretch too far but this is pretty coincidental. In the news last week, Prince MBS rounded up a handful of princes and detained them, similar to what he did a few years ago. Quick: how many princes were rounded up in the March, 2020 round-up?

Answer: three.

I always wondered what happened to the three members of the Allegiance Council who voted against the King and against his son, the current heir to the throne.

Another digression. I apologize.

Let's cut to the chase so we can bring Part 2 to a conclusion.

Prince MBS's decision to flood the world with oil was an emotional outburst in response to one of two things:
  • the survival of the House of Saud; and/or, 
  • his own survival as heir to the throne
When one needs $90 oil to survive, and willing to cut the budget to make it on $80 oil. that's one thing. But when the very kingdom is at stake, when Brent oil is headed toward $50 oil, drastic measures are necessary.

Either the Prince knows exactly what he is doing and this will someday be seen as a well-thought out, rational response to an existential crisis or this was an emotional response to an existential crisis which will only make matters worse.

Back to that fork in the road noted earlier.

Sort of reminds me of Robert Frost's "the road not taken."

END OF PART 2 

Part Three

It is amazing how the global oil experts were obsessed with the first room all these years: the room occupied by Libya, Ecuador, Venezuela, and Iran. They completely missed the second room with Russia, Saudi Arabia and the newly-arrived unwelcome elephant in the room.

By the way, in the current spat has anyone talked about Trump's sanctions on Russia. Perhaps it is not only Saudi Arabia that is reeling from the depressed price of oil. Perhaps Russia is in deeper doo-doo than we realize. That would go a long to explaining why Russia and Saudi Arabia were so far apart in their negotiations. From October 1, 1939, from one of the greatest orators ever who also suffered with stuttering as a child:
I cannot forecast to you the action of Russia. It is a riddle wrapped in a mystery inside an enigma; but perhaps there is a key. That key is Russian national interest.
Wow, this opens a whole new area of inquiry.

But I have to leave that -- Russian national interest -- for another day. I want to get to the elephant in that second room. It's very possible things were going badly for both Russia and Saudi Arabia by November last year, 2019, just four or five months ago. Oil demand growth was forecast to fall a bit in 2020, and sanctions were still taking a bite out of Russia's apple.

But things really turned nasty in January, 2020. A seven-gene RNA virus related to the common cold escaped from the high-biosecurity lab in Wuhan, Hubei, China.

That changed everything.

While global experts were watching the trivialities going on in the room with Libya, they completely missed what has been going on in Saudi Arabia the past ten years which began with the Bakken.

And then the elephant showed up.

The elephant, of course, was the coronavirus.

Prince MBS was aware of the trajectory before the elephant showed up. He was taking responsible actions to turn things around:
  • internal reforms of which we would be unaware;
  •  beginning to put his "2020" strategic plan into operation
  • launching the Saudi Aramco IPO
  • raising money for that IPO in unorthodox ways (extorting money from hundreds of princes)
  • curtailing/canceling "pie in the sky" renewable energy (wind and solar) projects
But nothing was working. US shale production was continuing to grow.

About two months ago, OPEC (not OPEC+) debated calling an earlier meeting to discuss extending the quotas which end in a couple of weeks (March 31, 2020). Russia balked.

OPEC (not OPEC+) seemed rudderless, unsure, definitely not united which gave Russia the opportunity to push back.

Who knows what happened when, but what began as a rational discussion resulted in an irrational response by Saudi Arabia.

It may be personal. I assume it was, to a greater extent than being reported.

For sure, it might have ended up the way it did regardless. But with coronavirus, the banning of flights from China, the almost-instantaneous realization that crude oil demand was going to plummet, Prince MBS knew that the timeline for the existential crisis that he saw coming has contracted, from perhaps ten years (if one was really, really optimistic) to less than two years.

He really had nothing to lose. He could see that the price of oil was going to drop this year. His country's breakeven is $83/bbl (Brent). Brent was headed for $60 for the foreseeable future.

At $60, Saudi Arabia will be -- for all intents and purposes -- financially broke in five years to ten years. Opening the spigots will drop the price of oil to much less than that.

I honestly don't see a way for Saudi to navigate this disaster.

END OF PART THREE

Part Four: Posted March 24, 2020

Facts or at least what I think are the facts (folks can fact-check me on these). Maybe I should call these observations:
  • Saudi Arabia and Russia were quibbling about less than a million bopd one way or the other
    • the argument was whether to extend the quotas after they expire at the end of March, 2020 (one week from now)
    • the argument was less about the quotas (and price) and more about protecting one's market share
  • a digression:
    • 30% of the market share at $70/bbl vs 35% of the market share at $20/bbl -- but we need to move on
  • Saudi Arabia's budget is based on $83-oil and that is after a cut in the budget; 
    • at one time, not many years ago, Saudi Arabia's budget was based on $100-oil;
    • Saudi Arabia cannot print rials (as opposed to the US which can print dollars) -- actually the country can print rials but you get the point
  • so far, no increase in crude oil has reached the US from Saudi Arabia;
  • to meet its export goals, Saudi Arabia will first empty its crude oil storage tanks;
  • after Saudi crude oil in storage is exhausted, Saudi has to increase production to:
    • increase exports by one to two million bbls /day to achieve its rhetoric to flo
    • od the world in oil;
    • increase production for domestic use (occurs every summer to run air conditioners)
    • increase production from the fields to replace oil for storage
All of this just in time for Wahun flu to hit the mideast. Saudi often fell short of production goals in best of times; it will be interesting to see what the kingdom can do with the threat of Wuhan flu looming

It's hard for me to believe that the world will remain in "lockdown" past April 30th. If the world returns to normal / begins to return to "normal" by May 1, 2020, oil demand will increase significantly.

At that time, one could see:
  • max oil demand in the US; summer driving season; economy gets back on track;
  • China injects $7 trillion in stimulus;
  • Saudi storage depleted;
  • Russia can't make up the difference (for any number of reasons);
  • Saudi production stressed (see above) 
END OF PART FOUR

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