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Peak Oil Review – 4 April 2016
By Tom Whipple
Quote of the Week
The six-week long surge in oil prices which pushed the price of crude up by roughly 50 percent seems to be coming to an end with prices down 6 percent last week. Looming behind the price increase was the notion that the world’s major crude exporters would to get together and sign an agreement to freeze production at current levels. Supporting the price jump was an increase in US gasoline consumption as prices fell to levels not seen in decades and the never ending hope that the US economy was about to get better.
Much of the surge was caused by the liquidation of the unprecedented short futures positions that hedge funds and other speculators had built up during the nearly two-year slide of oil prices. When oil fell below $30 a barrel, many speculators figured that the long price slide was over and that oil was unlikely to go much lower. The resulting liquidation of positions which pushed up prices was the largest on record.
Last week the Saudi deputy crown prince said his country would not be agreeing to any production freeze as long as its dire enemy, Iran, continued to increase its production. This assertion threw into doubt whether the Doha meeting which is to take place on April 17th will actually occur and even if it does, whether an agreement on a production freeze will be signed. This fear that there will not be an agreement was reinforced by Kuwait’s announcement that it is about to reactivate a 300,000 b/d oil field – adding still more oil to the glut.
Among the pressures tending to push prices lower is the continuing buildup in global crude stockpiles. The slower-than-expected decline in US oil production despite a large drop in the number of active drilling rigs is weighing on the markets as is a substantial increase in US oil imports and an unexpected drop in US oil exports in the last few months. Last Friday, these forces came together to cause the worst price drop in a month. New York futures closed out last week at $36.79 and London closed at $38.67. This was a drop of 6 percent last week and 11 percent for New York futures since the high for this year’s rally was touched on March 22nd.
US production still is forecast to continue dropping this year, and output from several of the weaker oil exporting states continues to slip slowly. However, Iran’s drive to increase exports and the massive oversupply which is filling storage depots around the world that continues to grow suggests that a fundamentals-supported price rebound is still some months away.
Concerns are growing about five of the weakest oil exporters, known as the fragile five, which could easily suffer a political collapse and cease to export oil in the foreseeable future. These countries – Algeria, Iraq, Libya, Nigeria, and Venezuela – suffer from a variety of economic and geopolitical ills which could easily turn one or more into failed states unable to export much oil. These five countries are producing total of about 10 million of oil per day; have little in the way of other revenues; with the exception of Libya, do not have the large sovereign wealth funds that other oil exporters have accumulated in the last decade; and are currently selling much of their oil below the cost of production. Should one or more of these exporters collapse within the next two or three years, the global glut of stored crude could quickly be eliminated.
If this is coupled with the coming impact of the massive reduction in capital expenditures by oil companies to find and produce more oil that is currently underway, oil prices could be at record levels before we are very far into the next decade.
In the meantime, the situation in the US oil industry continues to deteriorate. The latest concern is for the wellbeing of the banks that have loaned the billions of dollars to shale oil drillers in the last decade. Some foresee that the regional banks that have too much invested in oil could be in trouble before the year is out. It seems reasonably certain that many banks are going to cut the lines of credit for many smaller shale oil drillers in the next few weeks which could drive them into bankruptcy. Some 50 North American oil and gas producers have declared bankruptcy since early 2015. However, these are mostly small firms that had accounted for only a tiny share of US production and are having little impact on production.
Many companies have continued to produce oil in the midst of bankruptcies as there is little marginal cost to keeping the oil flowing as compared to the expense of drilling and fracking new wells.
The EIA reported last week that the costs of drilling new shale oil wells last year were 25-30 percent lower than in 2012. While some of this came from efficiencies such as drilling multiple wells from a single pad, much of the cost has come from major reductions in pay scales in what has become a buyers’ market.
There was yet another flurry of concern about the effects of climate change on sea levels last week when a new study was released showing that melting of the Antarctic ice cap could contribute to raising sea levels by as much as three feet by the end of the century. When combined with Arctic ice melts sea levels could be up by as much as five or six feet by 2100, devastating many of the world’s coastal cities.