Is OPEC’s strategy working?

Is OPEC’s strategy working?

Brent crude for April delivery fell 2% to $61.32 a barrel on London’s ICE Futures exchange. On the New York Mercantile Exchange, light, sweet crude futures for delivery in April traded down 1.9% at $48.80 a barrel. No signs yet of declining production so prices will continue to fluctuate.
OPEC and the American shale producers are still pumping crude at record levels, which has led to a continued collapse in the oil price

OPEC’s Secretary-General Abdallah Salem el-Badri spoke at the Middle East Oil and Gas Conference in Bahrain on March 7, Where he highlighted the growing cracks in the U.S. shale industry. “When OPEC didn’t reduce its production, everything collapsed for the U.S. shale-oil-rig market,” el –Badri said. He felt that OPEC will successfully force some shale production out of the market as private companies pullback on investment.

He is right up to a point. Baker Hughes reported on Friday that there were now only 1,192 rigs exploring for oil and gas in America, compared to 1,792 one year ago. The low price is hitting investment but the record production is a result of rigs already completed a year or two ago.
An EIA report shows that U.S. field production of crude oil averaged almost 8.7 million barrels a day in 2014. Up 1.2 mb/d from 2013. This seems to disprove the correlation between the number of rigs in service and crude oil production in the US. In the short run some private companies would pullback on investments or be forced out of the market temporarily and this might eventually lead to a fall in the US oil production which in turn would lead to an increase in oil prices. That would surely lead to another surge in U.S fracking, creating a new cycle for the oil price drop. This cycle will continue until a price equilibrum position is attained balanced by supply and demand.
Reduced EIA tight oil growth 3_18_14
The United States has been producing and importing an average of 1 million more barrels of oil every day than it is consuming. That extra crude is flowing into storage tanks, especially at the country’s main trading hub in Cushing, Oklahoma, pushing U.S. supplies to their highest point in at least 80 years, the Energy Department. OPEC’s strategy of undermining its main competitor might backfire as the US is definitely doing all it can to be self reliant.

Its been reported that a median US shale project needs a breakeven crude price of $57bbl as opposed to $70bbl last year. This is because larger players are now able to produce oil more efficiently as they begin to achieve economies of scale. In some places such as the Watford City/Williston, North Dakota (Bakken region) the shale oil production price is as low as $36 a barrel according to the state.

This backs up the fact that we cannot simply measure production by number of rigs in operation. Secondly a shale oil well can also be drilled in as little as a week, at a cost as low as $1.5 million, which enables producers to react quickly to market conditions. As technology also continues to improve we can categorically state that Shale Oil is here to stay baring any catastrophic enviromental disaster.

ConocoPhillips Chairman and CEO Ryan Lance delivered an energy policy speech at the U.S. Chamber of Commerce that appealed to the congressional and executive branches of federal government to lift the outdated and economically constraining national ban on crude oil exports.

Rex W. Tillerson, chairman and chief executive of Exxon Mobil Corporation said that Congress and the White House need to enable U.S. exports of oil and natural gas, approve the Keystone XL pipeline, and make the regulatory process less burdensome and more transparent. “It is time to build policies that reflect our newfound abundance – that view the future with optimism, that recognize the power of free markets to drive innovation, and that proceed with the conviction that free trade brings prosperity and progress.”

If the US lifts all restrictions on export of crude oil then the battle for supremacy will really start. Our money is on the US.

At the moment Projects are being canceled and Investments are being revised in the industry. Costs are being squeezed as lower revenues compared to a year ago is forcing Oil companies to rethink strategies and scale back on exploration costs.

We don’t believe there will ever be a shortage of oil as too many countries are now involved in the prospecting,production and exploration for the black gold. Production of oil by means of fracturing shale and other tight formations is now the norm and as more countries adopt this process there will be a constant supply of crude in the markets.

As it stands now oil investors are making money buying and storing oil because of the difference between the current price of oil and the price for delivery in far-off months. An investor can buy oil at todays rate of $57 and enter into a contract to sell it for $65 in December, locking in a profit even after paying for storage during those months.

OPEC’s strategy is working only for Saudi Arabia and the Gulf states. OPEC countries like Iran, Venezuela, Iraq and Nigeria have little room to
manoeuvre because of their reliance on oil revenues to balance national budgets. Its been reported that Iran needs oil prices of around $130/bbl to balance the national budget. Non OPEC countries such as Russia loses about $2 billion in revenue for every dollar fall in the oil price. They need at least $104/bbl for the government to balance the national budget.

Saudi Arabia repotedly has $741 billion of currency reserves to fall back on to sustain state expenditure for a few years. Nigeria and Venezuela on the other hand are in deep trouble with every dollar reduction in price per barrel. Nigeria for one has been recently forced to raise interest rates and devalue its currency.

The International Monetary Fund (IMF) Executive Board stated: “Directors noted, however, that vulnerabilities remain high in view of the uncertainties about oil price, security, and the political situation, and concurred that additional policy adjustments and broader structural reforms will be necessary in the period ahead to reconstitute buffers, mitigate risks, and meet pressing development needs”.

Hydraulic fracturing and horizontal drilling, has brought economic benefits to all 48 states in the continental U.S. in a few short years. The energy sector reportedly accounted for about 30 percent of the nation’s economic growth. Though the shale oil industry was leveraged to a very high oil prices it is realigning itself to a low cost enviroment.. The future price of crude oil is trading at a higher level than today’s spot price. The industry believes that prices will rebound. By how much is anyones guess especially as that the IEA has continually lowered its demand forecast.
Every analyst/industry expert has a theory on what will happen to oil prices in the future, some have even stated that the price might end up way above $100/bbl because ‘outside of shale, finding new oil is getting harder’. They have blamed the low prices on reduction in investments for exploration etc.

The markets will eventually decide what happens next and there is no point looking too far ahead as there are just too many variables to be considered in this day and age. But whatever happens it would be a price the market can bear as economists would say.

By Victor Cole of

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