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Global Intelligence Report - 3rd April 2019

Saudi Arabia

Sources

- Aramco insider (current high-level Aramco staff)
- Former Aramco executive
- Turkish investigative journalists in Ankara and Istanbul

Every Reason to Be Alarmed About Aramco

Inside the corridors of Saudi Aramco, there is panic. While media report on the brilliant $69-billion takeover of SABIC petrochemical company by Aramco - particularly emphasizing alleged cost savings for both--the truth of the matter is that this is a disaster for the Saudi oil giant. As we speak to our sources inside Aramco in the wake of the SABIC deal and the $10-billion bond sale, the mood is one of defeat.

Despite the best efforts of Aramco’s top brass to subvert Mohammed bin Salman’s cash grab from its long-siloed balance sheet, the young prince has emerged victorious. The deal will essentially see almost $70 billion transferred from Aramco to the Public Investment Fund (PIF - the Saudi sovereign wealth fund), which Prince Mohammed controls completely.

Aramco executives opposed the deal because it didn’t make economic sense, especially at the high valuation it was ordered to accept - but the fears run even deeper.

For a decade, Aramco has operated as a quiet economic advisory office for the royal family: It is regularly sent details of non-oil deals for analysis by highly trained staff. Those sane economists and analysts, together with their bosses, fear Prince Mohammed will sink huge amounts of the new funds into investments that are highly unlikely to address the country’s pressing economic reform needs.

One example is the massive NEOM real estate project that is proving to be a grandiose megaproject in the tradition of similar efforts by King Abdullah and Hosni Mubarak. Another example would be investments similar to the $40 billion sent to the Vision Fund. In fact, Softbank is raising a new fund and PIF could again be a major contributor.

In the best case, such investments would bring a modest return and even that might be farfetched considering the depth of talent on the fund’s staff. Even so, this will not likely move the dial on the 2030 plan to kick the country’s addiction to oil revenues and high subsidies. Alarm bells are ringing at Aramco - not for its own future, but for the future of the country as a whole.

And in the meantime, Aramco has had to divulge one of its best-kept secrets: The exact size of its Ghawar oilfield, the largest conventional oilfield in the world. The cat was let out of the bag on Monday when Aramco had to publicly report its profit for the first time in its history. Investors had been foaming at the mouth over this field for years, speculating that it topped 5 million bpd. But now everyone knows it doesn’t - instead, it’s officially 3.8 million bpd. That makes Aramco’s future “valuation” even more tenuous. However you look at it, MBS is killing Aramco, and Aramco feels the dilution keenly.

What Erdogan’s Local Election Loss Really Means

Cracks are showing in Erdogan’s power base in Turkey. In local elections held on Sunday, Erdogan’s ruling Justice and Development Party (AKP) appears to be losing popular support. But it is important to put this into perspective. Based on the election results, the AKP has just over 40% of popular support. But they can combine this with their nationalist allies, the MHP, to maintain the majority. Despite Erdogan’s victory speech on March 31, the reality is that the AKP lost almost all the provinces along Turkey’s western and southern coasts, and much of the heartland, including the capital province of Ankara. The AKP even lost Istanbul, the most important mayoral seat, though the margin was slim and Erdogan is claiming irregularities and vowing to contest it.

The bigger picture is that the elections show that the economy remains the most important factor for voters. Opposition parties took advantage of the ongoing economic downturn and the devaluation of the Turkish lira by forming clever provincial alliances that ultimately led to the AKP’s major setback. This is a massive achievement considering that Erdogan completely controls the media. Right now, Erdogan is worried, but he also has time on his side. There won’t be any more elections until 2023 and he will carefully deal with these losses until then.

Game Over for Algerian Strongman

Over the past couple of weeks we have stressed the pending climax of seething political unrest in Algeria, which has officially reached its peak with the resignation on Tuesday of President Bouteflika. The military kingmakers gave him no choice in the matter. But from an investor standpoint, a phase of high-level political uncertainty now begins for the gas-rich country, and deals will continue to be put on hold. On Wednesday (3 April), Algeria’s Constitutional Council will convene and the president of the upper house of parliament will become the interim leader for up to 90 days while elections are organized. But this in itself could be highly contentious as the interim leader, based on the constitution, is a Bouteflika ally. Investor concerns are not to be taken lightly, either: This is a dangerous venue to have such a massive political vacuum. It borders Libya and the Sahel, and one can be sure that Islamist radicals are already plotting how they can take advantage of the destabilization. Destabilization in 1988 led to massive riots, unrest and a civil war against radical Islamist forces who are still circling and preparing to strike. In 2013, they attacked and took control of a natural gas facility and took its workers hostage in an incident that the oil and gas world will not likely soon forget.

On the sanctions front ...

Japanese refiners last week put a halt to further imports of Iranian crude, with Japan having failed to obtain a waiver extension from Washington. Japanese refiners are concerned about concluding all insurance-related and financial transactions on the 15 million barrels of Iranian crude cargo they have already loaded before the waiver expires in May. This early cut-off benefits the Middle East and Russia, which will be filling the gap left by Iranian crude. There is considerable infighting right now in Washington over sanction waivers; while this round appears to have been won by the Bolton-crew, which has been pushing for an end to waivers and a harder line on Iran, detractors have been concerned about giving key allies extensions. However, a statement coming out of the White House on Friday suggested that the waiver period is over - until Trump feels that sufficient leverage has been gained for another extension.

In the meantime, the sanctions regime against Venezuela is attempting to tighten the noose, with Washington up in arms over traders and refiners who continue to deal with what is still the Maduro regime’s crude oil. While the Venezuelan oil industry is under sanctions already, traders and refiners in Russia, India and Europe continue to supply Venezuela with fuel. Where this gets complicated is that not all of these transactions are in violation of sanctions already implemented. So, essentially, Washington is now threatening traders with new sanctions if they continue to deal with fuel going into Venezuela even if it is not in explicit violation. There is absolutely no legal precedent for Washington’s demand in this case. Traders are not violating sanctions if they are not using the US financial system for trades or barters, so this is quite simply a squeeze that is not backed by law.

Production

- Iran’s giant South Pars natural gas field has increased production by 12 percent over last year, according to official data. South Pars has 14 trillion cubic meters of natural gas and 19 billion barrels of gas condensate--a figure that represents half of the country's overall reserves (8% of the world’s total reserves).

- While Alberta has continued to reduce production via government mandate, Alberta’s crude inventories rose again in February thanks to rail shipment bottlenecks that have rendered it uneconomical. According to official data, by the end of February, Alberta had 72 million barrels of oil in its inventory--up by 3.9 million barrels from a month prior.

- For March, OPEC production was at its lowest level in four years, with combined OPEC production at 30.4 million bpd--280,000 bpd lower than February.

- French oil giant Total has now commenced crude production at the second half of its Angola Kaombo project, doubling overall capacity to 230,000 bpd at the floating production storage and offloading facility. This is a significant achievement that effectively represents 15% of the country’s entire oil production.

The deal book

- US private-equity firm Carlyle Group LP has secured a 50-year lease in a Texas land deal for its $1-billion Corpus Christi oil export terminal project. The 200-acre plot will be the site of the terminal and docks designed to load US crude for global markets. That is the second piece of good news for Carlyle in as many weeks: Last week, a Texas court lifted a temporary injunction preventing Corpus Christi officials from entering into the contract.

- There have been some interesting LNG developments in Equatorial Guinea this week, with new deals related to Noble Energy and Marathon Oil Corp. Offshore in this venue, Noble Energy has natural gas Blocks, while Marathon Oil has the PUnta Europa LNG plant. The government has agreed to a deal for the Alen Unit JV project which will construct a 950-million-cubic-feet-capacity pipeline from the Noble Energy platform to Marathon’s LNG plant, where it will be processed for export. This is a massive 70-kilometer pipeline and first gas is slated to start flowing in Q1 2021.

- Also on the LNG scene, Sempra Energy’s Mexican subsidiary (Energia Costa Azul, ECA) has received two LNG authorizations from the US DOE for exporting natural gas produced in the US to Mexico, and for re-exporting LNG to non-FTA countries. Sempra is keen to let investors know that the timing here is significant as it is scheduled to meet with customers and partners in Shanghai this week.

- A major merger between Japan’s Idemitsu Kosan Co. and Showa Shell Sekiyu K.K. on Monday has effectively led to the creation of a new national oil giant that will dominate Japan’s wholesale petroleum scene. Idemitsu is the second-largest oil wholesaler in Japan, and Showa Shell is the fourth-ranked in the country.

- The $1.7-billion merger between Denbury Resources and Penn Virginia Corp. is now defunct. Both sides have agreed to terminate Denbury’s acquisition of Penn, citing opposition from Penn shareholders along with difficult market conditions. For Denbury, the acquisition of Penn was about gaining a strong foothold in the Eagle Ford.

ConocoPhillips in focus ...

ConocoPhillips is our chosen company in focus this week due to a number of developments and upcoming events. First, there have been indications this week that there is specific interest in the company’s North Sea assets (mature fields) coming from Chrysaor Holdings Ltd. After an earlier failed attempt to divest these assets for $3 billion failed, Conoco relaunched bidding again in January. Overall, the company is trying to divest all assets that are not related to US shale exploration, but has hit hurdles. Chrysaor, while it has not officially confirmed its interest, is rumored to be considering the Conoco North Sea assets. Cutting a deal on this sale would be good timing for Conoco. The company will be announcing its quarterly earnings on April 25, and analyst forecast consensus estimates are at about $0.78 per share. Also weighing in on shares will be a recent victory (even it was following a major defeat) when an arbitral tribunal awarded it $8.7 billion in compensation for the expropriation of its Venezuelan assets.

The politics of permitting…

There have been two major developments this week on the US regulatory front that should be high on investor radar. First, Trump has signed a presidential permit for the highly controversial construction of TransCanada’s Keystone XL pipeline. The permit runs the full spectrum for TransCanada, approved construction, connection, operation and maintenance of the US-Canada pipeline. In November the original March 2017 permit for the pipeline was invalidated by the federal judge in Montana. From a legal perspective, it is still possible that even with this presidential permit, another environmental review will still need to be conducted and approved by a court, though the White House is clearly hoping to bypass this process.

The second development concerns Alaska drilling: While we saw an April 2017 executive order from Trump reverse an Obama-era ban on Arctic and Atlantic drilling, an Alaska judge has now blocked Trump on both fronts, saying that the president had exceeded his authority in April. The April 2017 executive order has now been restored. It can still be revoked by Congress, and the federal judge’s ruling can also be sent to the Ninth Circuit Court of Appeals. But we caution that this is really a red herring for investors. Buried evidence about a much-talked-about oil well drilled in the Alaskan Arctic four decades ago suggests there was nothing much to write home about. This move is largely political and not economic.





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