Two hundred and seven years after the birth of Charles Darwin, and the final trading day of the week is evolving into a rambunctious rally for the crude complex. Once again the market is at the mercy of OPEC rhetoric, as comments from the UAE’s energy minister have been interpreted as a sign of collusion for a production cut. Here are three reasons why this news is more likely to be poppycock than progress:
1) OPEC’s tactics are working. The US oil patch is debilitating at a rapid pace. Oil firms are maxing out credit lines, as shrinking revenues from lower oil prices mean cash flow is not enough to service debt obligations. The WSJ reports today a number of companies have drawn down their revolving credit lines – signaling potential bankruptcy ahead. Midstates Petroleum, Linn Energy and Sandridge Energy are three examples, having recently burned through their collective cash cushion of $1.5 billion.
2) OPEC’s production is set to rise. Despite there being suggestions earlier in the week that Iran is ready to cooperate with other OPEC members to limit oil production, this seems a highly unlikely scenario. With sanctions lifted on Iran, it is looking to boost production by 500,000 barrels per day in the coming months, and has already entered into a deal with Total to supply 160,000 bpd into Europe as it looks to increase receipts by 300,000 bpd to the region. We can already see from our ClipperData that January loadings were 75% higher than for the same month in the previous year; Iran means business.
3) We are starting to see global production cuts. Although only a small loss of 4,800 bpd, the first closure of a Norwegian oil field – the Varg oil deposit – in the North Sea is evidence that OPEC’s tactic of trying to flush out higher-cost production is starting to work.
Moving on, the US supply glut is reaching epic proportions, and not just for crude. We are now seeing the glut morph into one for gasoline too. Yesterday we looked at how Midwest gasoline inventories were at their highest since February 1993; we are now hearing of a number of refiners curtailing gasoline production due to high storage levels and unfavorable economics. While Valero and PBF Energy have reduced production at plants in Tennessee, Ohio and Texas, they have also been joined by Philadelphia Energy Solutions and Monroe Energy on the East Coast.
Let’s end on a positive note here into the weekend. Capital Economics in the chart below pose the suggestion that the recent sell off in equities is overdone, as opposed to the world heading into recession. I hope they are right.