Expect More Bullish News For Oil This Month

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Last month we wrote a series of notes arguing that risks were either skewed sideways or slightly higher for oil primarily based on the ideas that the US central bank was turning dovish and OPEC+ cuts would tighten physical supply/demand balances. These themes are still the most important sources of risk in the market and we’ve seen key news updates on both items over the last week.

On the central bank front, the Fed’s statement from its recent FOMC meeting took another step in the dovish direction remarking the committee would remain patient in their pursuit of higher interest rates. The overall language of the note took a more accommodative look at employment and inflation trends and seemed increasingly in tune with the idea that the economy needs to be able to run further before policymakers apply the brakes of higher rates. The bankers also noted that they would take slow approach in deciding on whether to continue shrinking their balance sheet. (Our assessment is that Fed balance sheet tightening was a critical driver of stock market and oil prices weakness in 4Q’18.) US Fed officials could ultimately play as important a role as OPEC in shaping oil prices in 2019 and for now they’re clearing the path to higher prices. This could become especially true if US government shutdown, US/China trade or Brexit contagions rise as the central bank could swing even more dovish and work to push asset prices higher.

On the OPEC+ side, January production estimates for the cartel came in this week and the Saudis clearly mean business in tightening the market. The Kingdom cut production by 450k bpd in January which was exacerbated by unplanned production struggles in Iran, Venezuela and Libya. The group’s overall production fell by about 900k in January with help from a 50k bpd reduction from Russia. Total OPEC production ultimately printed 31.0m bpd in January which was its lowest mark since 2015. Also critical, OPEC exports to the US hit a five-year low in January at 1.41m bpd which we think will begin to aggressively eat into US crude stocks over the next six months. Going forward we expect OPEC’s cut-discipline to increase in an effort to give the market bullish shock therapy and maintain a healthy floor under prices for the near term.

Bearish risks continue to lurk which could sour our forecast and we’ll be sure to keep an eye on them as well. It’s important to note that option skews remain massively negative with put options trading at substantial premiums to call options, US production is running 11.9m bpd and key global trading hubs are still awash with refined products such as diesel and gasoline. On the macro side, global manufacturing data is slowing and flat bond curves continue to yell that the global growth outlook remains unimpressive to anyone who will listen.

For now, however, hedge funds are back to buying oil. Time spreads indicate that global supply/demand balances are tightening and the US Fed seems keen on providing a macro tailwind. Oil price risk remains skewed to the upside.

Quick Hits

- Oil prices were basically flat to begin the week with Brent trading near $62.50 while WTI was near $54. Both grades are higher by about $9 YTD and seem to be trading in a technically positive trend by slowly building bullish momentum.

- Spread markets also look strong with physical traders eager to buy prompt contracts against later dated deliveries. This week the Brent June ’19 / Dec ’19 spread traded near 30 cents backwardated suggesting healthy inventory draws in the coming months. WTI spreads have a slightly more bearish tilt and currently have a modest contango.

- OPEC production estimates from January have been submitted and the cartel continues to show strong discipline in their effort to tighten the market. Current group production fell by about 900kpd bpd (via Bloomberg) to 31m bpd for its lowest mark since 2015. Qatar, which produced 600k bpd in December also quit OPEC as of January 1st.

- For breakdown, Saudi output fell by 450k bpd to 10.2m bpd. Iraqi output fell by 10k bpd to 4.69m bpd. Iranian output fell 150k bpd 2.74m bpd. Nigerian output fell 80k bpd to 1.69m bpd and Libyan output fell 100k bpd to 900k bpd. Venezuelan output jumped from 1.22m bpd to 1.27m bpd but exports continued to slide.

- Hedge funds were net buyers for the fifth straight week last week bringing overall net length on futures and options to 232k contracts. Net length held by speculators is higher by 80k contracts YTD representing a 53% increase. Much of the increase in net length has been due to a liquidation of short positions as gross shorts have dropped from 99k contracts at the end of 2018 to just 48k contracts.

- Oil majors have been reporting 4Q’18 earnings this week with great news for shareholders. BP offered particularly strong numbers with quarterly profits +65% y/y and 11% return on capital versus 6% last year. BP’s CEO told reporters that they’re planning to run their business with oil prices in the $50-$65 range for 2019. Shell reported their highest profits in four years for FY 2018

- Away from oil markets the US Dollar index continues to trend bearishly due to an increasingly dovish US Fed relative to other G7 central banks. The yield on the US 10yr bond was flat near 2.70%

DOE WRAP UP

- US crude stocks jumped about 900k bbls w/w to 446m and are higher y/y by about 7%.

- US producers are keeping things steady at 11.9m bpd and have produced an average of 11.85m bpd in 2019. If they keep it up, they’ll beat their 2018 average by exactly 1m bpd and beat their 2017 effort by 2.5m bpd- incredible.

- Cushing stocks fell by about 100k bpd to 41.2m bbls.

- Traders exported 1.94m bpd last week which was essentially flat w/w and 200k bpd below their 6-month average.

- Imports fell 1.1m bpd last week to 7.1m bpd for their lowest print in ten months. We can expect to see declining imports as Venezuelan barrels shift away from Houston and towards China and India

- The US currently has 26.1 days of crude oil supply on hand which is 0.6 days below its five-year average. There are 28.8 days of gasoline supply available which is in line with seasonal norms over the past five years.

- US gasoline inventories fell by about 2.2m bbls w/w and are higher y/y by about 7%.

- US distillate stocks fell by about 800k bbls w/w and are flat y/y.

- On the demand side, US refiners consumed 16.5m bpd last week for a seasonally normal drop of about 600k bpd. US refiner demand has averaged 17.1m bpd so far in 2019 for y/y growth of about 2%.

- US refiner demand is being tempered by historically low gasoline margins for much of the country. This week the RBOB / WTI crack offered just $6/bbl and bouncing off a three-year low at $5/bbl late last week.

- US gasoline demand + exports totaled 10.2m bpd last week which was its highest print of 2019. Implied consumption has averaged 9.6m bpd so far this year which is flat v. 2018.

Global Intelligence Report - 6th February 2019

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Sources

• Two Swiss bankers who know Couriol, the man behind the Venezuela gold scandal
• One former Swiss prosecutor who works as a private investigator
• Former Aramco executive
• Former British intelligence operative in GCC

What You Need To Know About Venezuela’s Gold

As we noted last week, reports emerged that someone in the UAE was cashing out Venezuela’s gold for euros, which will be used to help prop up a desperate Maduro. Now it has emerged that the latest gold-for-euros deal involved a company called Noor Capital, which has said it won’t buy any more gold from Venezuela. But there is a new twist to this brewing. The deal also involved former Credit Suisse banker Oliver Couriol. And beyond simply bailing Maduro out, there are some other suspicious elements to this deal. Couriol was also involved in a suspicious Airbus related transaction related to a gold mine in Mali. Our sources in Switzerland say that Couriol is a very low-profile financier. He has repeatedly hired reputation management firms to clean up his digital image. His specialty is exotic financial structures that involve huge amounts of physical cash—a red flag if there ever was one. He is very active in Africa, and works with politically exposed officials, including Aliou Diallo in Mali. Couriol has a Swiss lawyer trying to keep him out of trouble—a lawyer by the name of David Bitton. This affair puts the UAE in a very tense and sensitive position.

Noor Capital itself is based in Abu Dhabi, so the US will be putting heavy pressure on Mohammed bin Zayed to clear up any related mess. One speculation from a source in the Swiss financial sector is that Couriol uses the Mali gold mine to launder money. Possibly, that's part of the plan for some of the Venezuelan gold.

This Is the Real Threat to MBS’ Throne

MBS may have managed to consolidate power after his purge and may have even managed to take some steps toward repairing his image post-Khashoggi—including by freeing McKinsey partner Hani Khoja under mounting pressure, but this is not a scenario that is set in stone. Saudi Arabia is still a powder keg and there remain numerous threats to MBS’ longevity, including the US government and Islamic extremists, who ultimately could hold the Saudis hostage if they chose to. But where attention should be turning on the economic front is the mega projects that are destined to fail, and MBS would fail along with them. The first of those megaprojects is the Aramco IPO, which is only a thing because MBS voiced it out loud and everyone had to follow through with it despite the fact that no one really agreed. It should never have been a Saudi policy to begin with, and it took years to even attempt to justify the $2-trillion valuation they ended up putting on the deal. Yet, it must go through because if it doesn’t, it will be a failure that resounds for MBS around the world, and very loudly.

The only play right now is one that gets the government cash, so while the IPO has been pushed sometime into the undefined future, the government is using that pause to make Aramco buy shares of SABIC from the sovereign wealth fund (PIF). This will further harm Aramco, according to our Saudi finance sources, as well as a source close to Aramco. Basically, it gives Aramco an asset that it doesn’t need. But it’s not just the Aramco IPO that needs to be ‘saved’, it’s also the PIF sovereign wealth fund itself—it’s cash-strapped and totally illiquid. MBS’ massive solar project is also teetering on the edge of failure because there is no one to pay for it now that it has become clear that the Vision Fund can’t make it work. The bottom line is that this grandiose solar project isn’t profitable enough, and it’s running into some logistical issues that have to do with lots of sand. That means it is not as useful as MBS hoped for his public relations campaign. Finally, the third mega-project on the agenda is NEOM—the high-tech city also failing. Foreign investors aren’t interested because standard investment criteria aren’t being met. The chances are, MBS will use other opportunities in the Kingdom as bait to get investors to jump in on NEOM even when they don’t want to. In other words, the only way it’s going to get funded is by force. The only debate right now from an investment standpoint is who is going to invest—East or West—and on that issue, Riyadh is divided into two camps.

Global Oil & Gas Playbook

• Exxon is splitting its upstream operations into three separate business divisions as it seeks to boost free cash flow twofold over the next six years along with earnings. The company, which booked $20.8 billion in earnings for full-2018, up from $19.7 billion in 2017, will divide its currently monolithic upstream division into ExxonMobil Upstream Oil and Gas, which will focus on value chain management, ExxonMobil Upstream Business Development, which will deal with strategy, M&A, and exploration, and ExxonMobil Integrated Solutions, which will have a technical focus on industry-relevant skill and technology development. The restructuring is likely a response to intensifying competition across segments, with every one of the supermajors vying for a diminishing pool of untapped oil and gas reserves. Exxon has been particularly fortunate in this respect: its huge Guyana offshore find now sports ten discoveries and estimated recoverable reserves of more than 5 billion barrels of oil and gas. However, Exxon is also growing in unconventional oil and gas, as well as LNG, where competition is getting equally stiff. In such circumstances and with shareholders still wary about major investment increases, a business restructuring seems to be the most logical approach to growth.

Deals, Mergers & Acquisitions

• An Indonesia company, Medco, won over Ophir Energy shareholders with a sweetened bid that values the UK-based oil and gas explorer at $511 million. Earlier, The Indonesian company offered $437 million for Ophir but that offer was rejected. The deal will turn Medco into the seventh-largest non-state oil and gas producer in Southeast Asia. Ophir Energy has been struggling to stay afloat lately, especially after it lost an LNG license in Equatorial Guinea after it failed to fund its work there, which resulted in writedowns of $300 million.

• Petrobras agreed the sale of its refinery in Pasadena to Chevron for $350 million. The deal, part of a sweeping asset sale offensive by indebted Petrobras will expand Chevron’s Gulf Coast refining capacity at a time when local shale production is growing. The refinery has a daily capacity of 110,000 barrels of crude as well as a pipeline network to producing areas and transportation pipelines. It also includes a storage tank complex with a capacity of 5.1 million barrels of crude.

• Chesapeake has completed the acquisition of WildHorse Resource Development in a cash-and-stock deal that will see the smaller company delist from the New York Stock Exchange. WildHorse shareholders could choose between swapping their stock for 5.989 Chesapeake shares apiece, or a combination of 5.336 Chesapeake stock plus $3 per WildHorse share.

Tenders, Auctions & Contracts

• Anadarko has sealed a deal with China’s CNOOC for the sale of 1.5 million tons of liquefied natural gas from Anadarko’s Mozambique LNG project, which is yet to be completed. This will be the first onshore LNG project in Mozambique, which is turning into one of the sweetest spots for LNG globally. The project will have a nameplate capacity of 12.88 million tons per year. Anadarko is operator of Mozambique LNG with a stake of 26.5%.

• Occidental Petroleum is looking to expand its refining activities in the Middle East following the winning of the rights to exploit an offshore block in the United Arab Emirates for a period of 35 years. The company’s CEO, Vicki Hollub, told The National in an exclusive interview Occidental could also expand into oil and oil product trading in the Middle East: a segment of the industry that is seeing greater interest from the local national energy companies.

Discovery & Development

• Continental Resources expects a new project dubbed SpringBoard to bring in a 10% increase in overall production in the 12 months between October 2018 and October 2019. The field, which spans three deposits located in the Oklahoma SCOOP play, currently pumps 15,000 barrels of oil equivalent daily. This is seen to rise to 16,500 bpd in the 12 months to October this year. However, the field has a potential resource base of as much as 400 million barrels of oil equivalent.

• A Chinese gas field operated by French Total and local CNPC last year reached a record-high production level of 2.24 billion cu m, CNPC boasted. Daily production stood at 6.5 million cu m. That’s in tune with an overall increase in Chinese gas production as the country seeks to curb its reliance on imported commodities. In 2018, local fields yielded 161 billion cu m of natural gas, another record.

• Shell has no plans to completely withdraw from the North Sea, CEO Ben van Beurden said after the presentation of the company’s fourth-quarter results. The remark was prompted by sizeable divestments Shell made in the legacy producing region as part of a divestment program worth a total of more than $30 billion following its acquisition of BG Group.

Company News:

• ConocoPhillips beat analyst expectations for its fourth-quarter results, reporting EPS of $1.13, up from just $0.45 a year earlier and in spite of falling international oil prices. Analysts had expected EPS of $1.

• Baker Hughes GE booked free cash flow of $876 million for the fourth quarter of the year, also reporting revenues of $22.9 billion and an order backlog of $6.9 billion, which was the highest quarterly order backlog in nearly three years.

• Shell booked the highest net profit in four years in the last quarter of 2018, at $21.4 billion and vowed to keep its purse strings tight going forward, as the earnings increase came in spite of no notable gains in oil and gas production: that only inched up 1% on the year between October and December 2018 to 3.79 million barrels of oil equivalent daily.

Regulatory Updates:

• Two U.S. Senators have introduced a bill seeking to improve the physical security and cybersecurity preparedness of oil and LNG pipelines in the country. According to one of the authors of the bill, Senator John Cornyn, in a context where “Foreign adversaries are trying to infiltrate our critical energy infrastructure,” it is essential to improve the security level of this infrastructure.

Politics, Geopolitics & Conflict

• A UN expert panel may accuse South Korea of violating sanctions against North Korea, according to Asian media, by delivering oil products to its heavily sanctioned northern neighbor.

• President Trump said in a CBS interview he wants to keep U.S. troops in Iraq “to watch Iran.” Asked whether this meant Iraq could in the future be used as a launch pad for an attack on its neighbor, Trump said it didn’t.

• Great Britain became the latest country to recognize Venezuelan opposition leader Juan Guaido as legitimate interim president of the crisis-stricken country, with Foreign Secretary Jeremy Hunt tweeting elected president Nicolas Maduro had not called the elections the European Union and other countries insisted Caracas held.

Is This The Point Of No Return For Maduro?

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Things have certainly moved into a higher gear in Venezuela, with a genuine diarchy vying for control over the country’s resources and populace. The alleged smuggling of gold reserves, politicized humanitarian aid, rampant disinformation against the background of all-encompassing poverty and deprivation – Venezuela of 2019 bears an uncanny likeness to any stereotypical conflict-ridden Latin American country of the 20th century. The US sanctions announced January 28 have driven a wedge between PDVSA and the United States, creating a point of no return for President Maduro. There is still no 100 percent certainty that Maduro will be ousted and if he manages to stay (through which, given his political skills and occasional antics, would be tantamount to a miracle), Venezuela could rethink its oil strategy on a grand scale. Let’s, however, look at the developments in Venezuela piece by piece before we jump into any conclusions.

The most evident and palpable consequence of the US sanctions was the almost immediate cessation of activity with US Gulf Coast refiners. The US Treasury has stated that under President Maduro PDVSA has become a “vehicle for embezzlement and corruption” and hence from January 28 onwards all income from the sales of Venezuelan crude should be transferred to escrow accounts in the United States, accessible only by the Guiadó government. Given that PDVSA has been a vehicle for embezzlement every single year of its 43-year old history, it is remarkably naive to believe a transfer of control from Maduro to Guaidó would bring about any structural shift, however, the severeness of the punishment brings across a powerful political message – a message that US refiners cannot shrug off easily.

Statistically, every day two cargoes of Venezuelan crude were being loaded in its ports and setting sail towards market outlets. The odds were that one of these two cargoes is destined for the US market – roughly 44 percent of Venezuelan exports went to American customers in 2018. The initial shipping numbers might bring you a smaller percentage, yet keep in mind that Aruba, Curacao and the Dutch Caribbean islands worked as transshipment hubs towards America for PDVSA. Absent a swift removal of Maduro from office, all of that will be gone after April 28 when the 3-month winding down period for cutting all ties with PDVSA comes to an end.

It is difficult not to understate the importance of the US market to Venezuela – as opposed to dealings with China and Russia (where PDVSA was paying back advance payments by the medium of oil), exports to US provided one of the rare opportunities to receive much-needed hard currency, an estimated $1 billion per month. Given that Venezuela has defaulted on more than $60 billion worth of bond issuances (the only bond that is still intact is the PDVSA 2020 bond), such a lifeline of dollars will be sorely missed. However, it has to be stated that Venezuelan supplies were essential to US Gulf Coast refiners, too. Despite all the public bravado, refiners will have a hard time replacing Venezuelan volumes with grades of equivalent quality and, most importantly, similar price level.

Valero Energy, taking in approximately 90kbpd of Venezuelan crude in Q4 2018, stated it will replace them with Canadian volumes, pretty much the only heavy sour stream that demonstrates healthy USGC coking margins. Yet as we have determined in our previous weekly columns, Canada is struggling to market all of its produced crude (which is not helped by the mandated Alberta production cuts) and will remain to do so until new pipeline capacity and rail tank car additions hit the market in late 2019. There is a high probability that the price of Canadian crudes will increase on the back of USGC refiners’ interest, pushing the margins further down.

Valero’s future travails pale in comparison with those of Citgo, which has become a proxy battlefield between Venezuela’s two rival leaders. First Maduro has ordered all Venezuelan Citgo employees to return home, then Guaidó has urged them to stay where they are, thus now no one really knows what to do. Citgo will become a litmus test of Guaidó’s political prowess – dealing with Venezuelan authorities with the backing of a hawkish US Administration is one thing, finding a compromise with Russian state-owned (and may I add, US-sanctioned) oil company Rosneft is an entirely different one. Citgo’s minority 49.9 percent stake was pledged by Maduro to Rosneft as collateral in return for a 1.5 billion loan provided in 2016, following which the Russian company immediately filed a lien with the Delaware Department of State asserting its right to own those 49.9 percent in case PDVSA defaults.

Guaidó has asserted that both China and Russia would be better off with him in power, pledging to respect the investments both Beijing and Moscow have made in Venezuela. Antagonizing Rosneft would be an unwise thing to do as it effectively operates the 150 kbpd Petromonagas crude upgrader facility, one of three working across the country capable of converting bituminous Orinoco crude into exportable volumes, and has stakes in five upstream projects (Petrovictoria, Petromonagas, Petromiranda, Petroperija, Boqueron). Chevron operates the 210kbpd Petropiar upgrader and envisages that it can keep up the stable operation despite all the political tension. The third upgrader, the 190kbpd Petrocedeno operated jointly by Total, Equinor and PDVSA, was expected to undergo a major maintenance program this quarter, however, seems to be working thus far.

Perhaps a bit wrongly, most of media attention was directed at the trading consequences of US sanctions, even though the most dramatic ramifications will be witnessed in Venezuela’s upstream sector. According to Platts estimates, up to 300kbpd of Venezuelan production might be out of operation amid an all-encompassing dearth of diluent, traditionally used to render the bituminous Orinoco crude transportable. Citgo was heretofore the major supplier of diluent, with some 120kbpd worth of exports effectively barred by the White House to sail to Venezuela under current circumstances. Reliance (having loaded two 2MMBbl VLCCs over the past few days – MT Folegandros I and MT Baghdad), having previously supplied 65kbpd, will most likely cease diluent supplies before April 28 so as not to put its US subsidiary RIL in the line of fire.

Graph 1. Venezuelan Oil Production.



Source: OilPrice data.

With minimal or no diluent to render its crude palatable, the current Venezuelan leadership risks seeing its production fall below 1mbpd on a permanent basis. Should Maduro retain his post for longer and reroute the majority of Venezuela’s exports from the US to Asia, he would still see his income shrink on the back of falling production. Output decreases would further exacerbate the fuel shortage in the country – if today Paraguana works at 20 percent of capacity, further out it might drop even lower. This only goes on to highlight the complexity of US sanctions, which, despite being applicable for US companies only, have effectively cut off every entity with some interest or equity in the United States (as can be attested by all of Europe stopping PDVSA bond trades). At the same time it goes on to demonstrate the double game behind the humanitarian aid effort – its possibility was floated only when the “bringing Maduro to ruin” strategy reached the endgame.

Oddly enough, the United States keep on (the optimist might say involuntarily) curbing the world’s heavy sour streams. First actively contributing to Venezuela’s production downfall from 2.1mbpd in Jan 2017 to 1.1mbpd in Jan 2019, then making away with 1mbpd of Iranian exports, and now seeming intent on bring Caracas’ exports even lower. This can be, of course, easily explained in political terms, yet ultimately it is the US refiner who bears the economic brunt – whatever replacement there is for Venezuelan crude, be it WCS or Ecuadorian Napo, comes in insufficient quantities and thus would most likely be overpriced.

OPEC: Success Or Stagnation?

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Since the co-option of Russia at the end of 2016, OPEC has appeared resplendent, but it remains a far from perfect cartel with no real destination in sight.

Although it is acting robustly to rein in supply, which, in tandem with a brighter outlook for US-Chinese trade relations, have buoyed the oil price, its problems are just if not more acute today than at any time in the past.

OPEC has always struggled when there has been a surge in non-OPEC output, but this time round it is not just a new oil province that has opened up but a new category of oil reserve – Light Tight Oil, known more colloquially as shale oil.

However, since the last major challenge, the world has moved from fear of peak oil supply to peak oil demand. The supply of petroleum liquids is a function of price, rather than the gradual exhaustion of a finite resource, but demand cannot grow indefinitely unless the environmental costs can also be addressed.

This is a new paradigm for OPEC as it faces its largest non-OPEC volumetric challenge to date. It raises a question that reveals the organisation’s fundamental vulnerability – if it cannot grow in production terms while the oil market is expanding, how will it fare in a market that eventually starts to shrink?

Russian involvement

Although not formally a member, Russia now looks like a permanent fixture within OPEC’s newly-broadened institutional architecture. On paper, this a huge expansion of the organisation’s reach. Even if the minor non-OPEC producers that have accompanied Russia are ignored, OPEC plus Russia control 54.7% of world crude supply, based on 2017 figures, a huge leap from OPEC’s 42.6%.

However, Russia’s new-found affection for OPEC -- an organisation it kept at arms length for decades -- was a capitulation. It has three primary drivers.

• First, after years of growth to record post-Soviet levels, Russian crude output is expected to flatten. The cost of cooperation with OPEC in terms of output curbs is therefore relatively low and may in future years be met simply by natural decline.

• Second, like OPEC members, Moscow is heavily dependent on hydrocarbon revenues to balance the books. It needs OPEC to function, a prospect which Riyadh’s experimentation with a market share strategy threatened. At the point at which Moscow decided to cooperate, the price of standing aside had grown significantly.

• Third, Moscow saw a new opportunity to use cooperation with OPEC as a pillar in its emerging role as a Middle Eastern power broker. The US retreat from the region, based on the new found energy security provided by shale oil, left a vacuum, which Moscow was willing to fill.

While Western interventions in Iraq and Libya left anarchy in their wake, Russia demonstrably turned the balance of power in Syria, ensuring the survival of a long-term ally. Riyadh and Moscow have been active in building closer relations, and Russia’s oil companies have made strategic investments in Iraq, including the Kurdish autonomous region.

Expansion but no growth

However, as a proportion of total world liquids supply, a measure which includes biofuels and derivatives from coal and gas, OPEC’s crude oil output has slipped from 41.3% in 2008 to 37.2% in 2018. The US Energy Information Administration forecasts this share will fall even further to 35% by 2020, reflecting rising US output and weakening demand growth.

The underlying reality is that – Russian cooperation notwithstanding -- OPEC’s market share is shrinking when shale oil and alternative fuels and modes of transport are taken into account. As such, it remains very much on the defensive.

US shale might move into long-term decline in the mid-2020s before the next big growth story gains momentum, shifting power back towards OPEC. Oil demand continues to rise globally, despite the emergence of new non-oil forms of transport, but demand growth is unquestionably being nibbled away at the edges. Peak oil demand appears inevitable at some point, even if its timing remains uncertain.

Holding hostages

Free market thinking portrays the cartel as holding a market to ransom, but in OPEC’s case it is the other way around because its members are countries not companies. The cartel is hostage to the oil market.

This is because of its members’ overwhelming dependence on oil revenues as a proportion of government income. OPEC can expand its membership, but it cannot grow its share of the oil market in real terms while it pursues a policy designed to promote the price stability on which its revenues rely.

It cannot overcome the free-rider problem, which today comprises not just new non-OPEC crude supply, but all forms of low carbon transport.

As a result, OPEC policy remains reactive and ultimately self-defeating.

Many of its members do have long-term strategies, but these -- tellingly -- all focus not on gaining more effective control of the oil market, but the economic diversification which will free them from the oil market.

Russia’s decision to cooperate with OPEC was recognition that it suffers from the same lack of economic diversification and inability to innovate in the new growing areas of technology where China, in contrast, is proving so strong.

At best OPEC-plus-Russia can deliver its members a period of stability, which could equally be characterised as stagnation. This, as in the past, will be extended as much by its own internal disruptions as its policy decisions. The 21st Century challenge for the oil industry is peak oil demand, the answer to which is neither a 20th Century cartel nor Moscow’s Middle Eastern adventurism.

Oil Arbitrage Economics: Heavy Crudes Get Pricier

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Unascertainable times we are having on the global oil market. The struggle for Venezuela, with all its twists and turns, should be looming large as pretty much everyone tries to find out whether the Latin American country can avoid an upstream collapse and reroute its cargoes towards Asia. Yet the Venezuelan impact has so far been rather modest and crude prices have actually fallen between Monday and Wednesday.

Thus, despite some genuine bullish potential out there, Russia’s slow compliance with its OPEC/OPEC+ commitments (so far it has only cut 47kbpd from the 228kbpd it had promised in December), the rise of US crude stocks and worries about global economic growth have outweighed other factors.



On Wednesday afternoon Brent has traded at 61.8 USD per barrel, sliding 1 percent compared to Tuesday closing, whilst WTI crude has dropped 2 percent day-to-day to 53.5 USD per barrel.

1. US Stocks Grow Further




• US commercial crude stocks have risen by 0.919 MMbbl to 445.9 MMbbl during the week ended January 25 and are expected to grow even further for the week ended February 01.
• Most analysts estimate last week’s increase will be somewhere within the 1.5-2.5 MMbbl interval, with API putting forward the most ambitious build of 2.5 MMBbl.
• The week ended January 25 market the first gasoline stock drop following eight consecutive weeks of growth, dropping by 2.2MMbbl to 257.4 MMbbl, still above the 5-year average range.
• Crude oil imports have fallen by more than 1.1mbpd to 7.083mbpd for the week ended January 25, with the four-week average hitting 7.66mbpd, some 0.4mbpd lower than a year ago.
• Crude exports, on the other hand, have been somewhat timid in the second half of January, after the 2.035mbpd documented on the week ended January 18, the following week did not produce a usual rebound at 1.944mbpd.

2. Saudi Arabia Raises Asia OSPs, Goes Wild on Med



Source: Oilprice Data

Source: Oilprice Data

Source: Oilprice Data

• Saudi state oil company Saudi Aramco has raised most of its official selling prices for Asia the second month in a row, with a special focus on the increasingly scant heavier volumes.
• Arab Heavy and Arab Medium headed towards Asia were hiked by 30 and 40 cents per barrel respectively (to -0.65 and +0.45 vs the Oman/Dubai average), whilst Arab Light was rolled over and Arab Extra Light dropped by 20 cents.
• Quite in line with the Asian developments, Aramco has raised NW Europe-bound prices for Arab Heavy by 30 cents to -4 USD per barrel, rolled over Arab Medium and Arab Light, whilst cutting Extra Light by 40 cents to -0.85 USD per barrel vs ICE Bwave.
• Saudi Aramco has simply rolled over the prices for all its US-bound March loadings, after significant increases in December-February.
• Saudi Aramco made the most dramatic changes to its March OSPs bound for the Mediterranean, hiking all prices on a FOB Ras Tanura basis by 0.35-1.15 USD per barrel, most notably Arab Heavy was cut from -3.85 to -2.70 USD per barrel in March 2019.
• FOB Sidi Kerir prices for the Mediterranean followed the same logic, increasing by 0.4-1.2 USD per barrel.

3. More US Crudes To Move Towards Asia

Source: OilPrice data.

• Amid favorable freight rates and competitive prices vis-à-vis Persian Gulf crudes, a whole array of US crude exports is expected to be loaded in February, heading to Asian customers.
• According to Platts, at least 17 VLCCs have been booked already for February loading (compared to 16 in January 2019 and 7 in December 2018), with more expected to emerge as time passes.
• Arbitrage economics – medium sour Mars trading at -3 USD and WTI Midland at -2 USD per barrel on a CFR North Asia basis – is the main cause of the export upswing, with decreasing freight rates contributing, too.
• The Platts WTI-Murban CFR Northeast Asia spread has widened some 60 cents to 0.7-0.8 USD per barrel month-on-month.
• Thus far there has been no sign of China restarting US crude purchases amid the ongoing China-US trade talks – South Korea emerged as the leading buyer of US crude in the upcoming months.

4. Chinese Companies Drill More

Source: EIA.

• According to media reports, Chinese state-owned oil and gas companies are poised to intensify drilling in China this year to the highest level since 2014.
• Concurrently to the onset of the Chinese-American trade war, the General Secretary of the Communist Party of China Xi Jinping has launched a drive to boost the country’s energy security.
• Between 2016 and 2018 China’s domestic crude output has dropped from 4.1mbpd to 3.7mbpd amid gradually increasing aggregate crude demand levels.
• China’s dependence on import oil has risen in 2018 to 70 percent (some 6 percent year-on-year), whilst its dependence on imported gas increased to 40 percent.
• All three Chinese majors – Sinopec, PetroChina and CNOOC – have been instructed from above to ramp up production, especially with regard to natural gas (against the background of the potential 25 percent LNG tariff Washington was floating).
• Natural gas, the demand for which is expected to grow annually by 7-8 percent in the upcoming years, remains a key element of China’s switching away from coal usage.
• PetroChina has boosted its risk exploration budget fivefold to 5 billion yuan (approx. $750 million).
• Buoyed by the 2.5Tcf Lingshui discovery in 2014, much of the exploration is presumed to be focused on China’s deepwater.

5. EU Wants to Move Oil Trade from Dollars to Euros

• The European Union will soon start a series of events destined to persuade European oil and gas companies to use EURO for physical crude oil and natural gas deals instead of the traditional US Dollar, kicking off with a February 14 workshop.
• The moves come against the background of a weaker-than-expected SPV mechanism and European fears that Washington might use dollar-denominated trade to the detriment of European interest.
• According to the European Commission, 85 percent of EU import deals are denominated in US Dollars.
• The EC has already distributed a non-legally binding recommendation paper on the issue and is actively collecting industry opinion on how to facilitate the move as smoothly as possible.
• Interestingly, Russian oil companies have already advocated the EURO switch this winter for 2019 term contracts, wary of what they perceive as arbitrary US sanctions.

6. The Turkish Straits Completely Clogged

• Shipping delays through the Turkish Straits – the Bosphorus and Dardanelles – have reached record numbers, standing at 17 days southbound and 18 days northbound.
• Exports from Black Sea ports – primarily Novorossiysk, Yuzhnaya Ozereevka (CPC terminal) and Supsa – have also been hit by difficult weather as January-February has been traditionally stormy.
• Novorossiysk exports of Urals and Sib Light were down 28 percent month-on-month at just 0.365mbpd, a level unseen since February 2017.
• New regulations issued in late 2018 added to the Turkish Straits difficulties – now all tankers must pass the straits strictly during daylight hours.
• On top of the bad weather, the delays were heavily exacerbated by a shortage of tug-boats to accompany the tankers.
• Currently, at least 38 tankers are awaiting declaration to pass through the Dardanelles.

7. Iraq, Jordan Start Feasibility Study of Basrah-Aqaba Oil Pipeline

Source: MEES.

• Baghdad and Amman are edging closer to each other, buttressed by an array of new energy-related agreements.
• The two sides have agreed to start a feasibility study on the long-mooted Basrah-Aqaba oil pipeline that would bring Iraqi oil to the Red Sea coast.
• Initially, the 1680km pipeline was estimated to have a throughput capacity of 1mbpd, it remains to be seen whether the sides amended the 2012-2013 project blueprint.
• Jordan also pledged to buy at least 10kbpd of Kirkuk crude at a whopping $16 discount from the price of Dated Brent, to be transported (by trucks) to the 105kbpd Zarqa Refinery.
• Iraq is ready to supplant Saudi Arabia, now accounting for more than 75 percent of crude supply to Jordan, which is fully dependent on imports to cover its needs.