Oil – It is about time – it is about price

Oil – is also about demand.
Flying off the BBC press:-

“The cost of a barrel of US crude oil has fallen by almost 1% in early trading to $39.61, below the $40 barrel mark. Brent crude – sourced from the North Sea – has shed 0.6% to around $42.75/barrel. The selloff comes after Opec failed to agree new production quotas at its meeting last Friday”

All figures displayed as USD.

The cost to produce a barrel in the UK is $52.50.
Production cost in Brazil is nearly $49 per barrel.

Production costs around $41 a barrel in Canada.
In the United States, production costs are $36 a barrel — still below the trading price. (2)
Costs for other oil producing nations.

image

Chart courtesy of IMF – Deutsche Bank

The BBC reports that:-

“With Europe’s flagging economies characterized by low inflation and weak growth, any benefits of lower prices would be welcomed by beleaguered governments.
A 10% fall in oil prices should lead to a 0.1% increase in economic output, say some. In general consumers benefit through lower energy prices, but eventually low oil prices do erode the conditions that brought them about.

China – which is set to become the largest net importer of oil – should gain from falling prices – these lower oil prices will not offset the far wider effects of a slowing economy.
It will however influence consumer demand in vehicles.
Japan imports nearly all of the oil it uses and lower prices are a mixed blessing – as high energy prices had helped to keep inflation higher – the fact that the country is now in recession again was definitely not a key part of Abenomics (Japanese Prime Minister Shinzo Abe’s and Krugman’s growth strategy to combat deflation).
India imports 75% of its oil, and analysts say falling oil prices will ease its current account deficit. At the same time, the cost of India’s fuel subsidies could fall by $2.5bn this year – but only if oil prices stay low.” (1)
It will be interesting as to whether this will assist Prime Minister Modi in redressing his slump in the polls.
Their are geopolitical tensions – but the oil price has these tensions already built in.

The OPEC countries and Russia are playing war games – and in so doing abandoned quotas to maintain their cash flows. Do not get me wrong on this point – fighting a war costs a lot of money.

The Saudi’s have been borrowing and in the meantime – increasing sales with far greater discounts – due to their low cost of production – in the hope of “increasing sales to China and to displace Russian crude going into refineries in Sweden and Poland , and cur prices across Europe. (3)

Russia whilst suffering through the 2008 US and European sanctions – have managed to whether the storm – no borrowings externally – but Prime Minister Medvedov has indicated that the lower oil prices – are having an impact on their GDP.

It will be interesting to see whether the reborn manufacturing boom – as a result of the illegal sanctions imposed will actually offset the lower oil income –  plus of course the billions in arms sales to Egypt, Syria and Iran.

The last but not least Denmark – whilst ever reliant on the oil income the country has now resorted to the partial drawdown from its Sovereign Fund.

Don’t panic yet – me thinks that the low oil price is here to stay for the short term and it will be interesting to see how the Government combats continual recessionary – deflationary trends.

According to the International Energy Agency (IEA), a Paris-based forecaster representing oil-consuming nations – say that even in the developing world – the amount of oil consumed per unit of economic output is declining.

They state that:-

“China’s growth, in particular, is becoming less energy-intensive. Fuel-efficiency standards may not be tightly enforced – but they nonetheless affect three-quarters of all vehicles sold worldwide. Industry analysts are beginning to invoke “peak demand”, as opposed to “peak supply”, as a factor that may determine the trajectory of prices in the long run.” (4)

image

Chart courtesy of IEA.org

Taking that graph into consideration “peak oil” is not in the equation.

It was interesting to see that the price slump for Oil producing nations and the large oil companies have resulted in rational behavior – with reports read that major projects have been cancelled (at least $150 million of investments in 2015 alone) and laying off of staff to preserve much needed capital – expect further cuts to come in 2016.

Also expect a cancellation or reduced dividends from the oil companies.

Capital preservation is the name of the game – thereafter this reduced investment will lead to lower output which will lead to a scarce resource.

The question is time – and whether the technology is advanced enough for alternative energy sources to replace fossil fuels.
1. http://www.bbc.com/news/business-29643612
2. http://www.rystadenergy.com/Databases/UCube
3. Citibank’s Seth Kleinman – comment extracted from The Economist article.http://www.economist.com/news/finance/21678198-once-prices-are-responding-supply-and-demand-not-opec-why-market
4. World Energy Outlook – IEA – released Nov 10th. https://www.iea.org/oilmarketreport/omrpublic/

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