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Good post HMH. I think the pandemic has made countries aware that you have to make your own luck and selfishness is the underlying major concern presently. I think the next stage will be a reaction towards hardship (no avocados, cleaning your own house and car, maintaining your property and gardening) and not being able to go on holiday. The spoilt "boomers" (I'm one) are part of the problem. Eventually resentment will begin to fester and people will begin to say "I'm young or not at risk so why am I suffering? They're old and have had their time; let them take their chances." Countries are hoping it is over before we reach that stage. Nature ensures that this element is instinctive whilst one thing I've learned is that expediency rules.
There will be upheavals and consequences we haven't imagined yet I'm sure but one thing that has already come out of it is the need for military assistance. With that comes essential oil supplies because nobody knows how this will turn out for sure. The real consequences may be a year or more away. KSA need to be very careful as they don't have the military prowess to back up their economic power whilst mercenaries may be skilled the fact remains that lots of good soldiers will always beat a few excellent soldiers.
It hurts me to write this but Trump may be right. The cure mustn't be worse than the disease which effectively attacks the less productive sections of society anyway. He'll continue spinning to the end and if US deaths reach (say) 50k he'll just say that without his timely actions and foresight it would have been greater; 500k, 5mio, 50mio. We know the narrative by now. I think the pandemic will be of a short duration. The impact remains to be seen.
Hi HMH - I agree with you statements and I also agree that supply will come off. We already see that. Q2 will be bloody for sure however and this is where I maybe wrong and would be interesting to get your take but I feel that the fact that Enquest has agreed with bondholders to accumulate debt if Brent is below 65 is a big advantage and that they have paid off debt until at least march 31 2021 but I suspect that they have paid off that 65 owed then and have 360m remaining to be paid end september 2021. They have a covenant test of ebidta : debt for the SFA and they need to hold a percentage of the net debt outsanding (25% by october 2020 that is to say 90M). In this situation I think that Enquest does not have any covenants or tests to overcome in the next year to year and a half. This is not the case for Tullow and Premier and all the American shale companies. They are being tested in April 2020. Supply will come off and who knows maybe the wheels of the economy will come back faster than we think. I think by July we will be back up again. In those 3 months Enquest will have negative cash flow of 100M but then I think that Brent will recover.
Banks extend credit and have to hold backup liquidity and review the portfolio of loans on an ongoing basis.
Due to regulations you have to write down loans to whatever value they are expected to fetch which will inquire credit losses that in turn reduces the shareholders equity and therefore the solidity of banks.
If a company cannot meet its obligations, which most of the 10-20mbopd that I spoke of will have trouble doing, it will default on their debt causing big write-downs in the banks credit portfolios and therefore losses in equity. Banks will then put the companies into bankruptcy and the assets will be auctioned off to the highest bidder to recover as much of the money as possible.
This will of course hurt the banks, making them reluctant to extend credit to other oil companies and credit facilities may not be renewed.
Therefore companies must, and will fail in this debacle, and barrels will move off the market as cutting uneconomical production is the first thing companies can do to stop bleeding money.
Central banks can extend credit to the banking system at 0% interest rates but the banks will not lend this money to failing businesses as they are left with all the risk in the event of a default.
How are governments supposed to help failing oil companies? Of course countries where the state revenue consists of the sale of oil the state may help out by increasing the fiscal deficit (by issuing bonds), but in capitalist systems the government don't inject liquidity into failing companies or guarantee their debt if they were not economical in the first place.
Please tell me how you see the people of countries (via taxes) having to bail out a non-needed sector of the economy for an unknown period of time? This while the sector lose money every day because they for some unknown reason keep on pumping oil that is not even covering the cost of getting it out of the ground with already existing infrastructure? And also paying the interest and amortization, and guaranteeing the sectors debt in order for the banking system to keep the credit lines open and not taking massive credit losses that would require them to have the companies file for bankruptcy?
Failure and bankruptcy is an essential part of capitalism. I don't see the world socialising the oil supply just because the price dropped, and nobody really knows where the current demand figures are sitting.
Supply CANNOT stay at 100mbopd at prices sub $50. It's essentially a free market even with the OPEC cartel presence.
I think that Enquest will come through in one way or another - AB is very tenacious - some assets may need to be sold or we could even see a takeover but a brutal cut in revenue for an extended period will do a lot of damage.
I simply don't see demand matching supply for an extended period even with the US shale industry going into meltdown.
The trouble is - and to state the obvious - oil companies only have one source of revenue - they have to continue production in some way or they go bust, especially when they have high debts - so until we reach the point where they are "thinned out" - and in some cases they won't be "thinned out" because Governments will support them - then we are going to still have overproduction and low crude prices.
Hello Chiltling,
You look at demand yet miss the supply side of the equation.
As we speak WSC is trading at $7.51, Canadian Oil Sands are about to shut down production. Every grade of shale is trading between $2-20, with whole Bakken, Eagle Ford and parts of Permian about to go belly up.
Urals is trading sub $20, Heavy Sour grades globally is changing hands below $10. The list goes on, and global capex is about to drop by ~50% YoY.
Within 3 months 10-20mbopd will be off the market as costs will be higher than price received per barrel at this level. That's more than most trading houses and forecasting services expect the demand to drop during Q2. They also forecast YoY growth in oil demand in Q3 and Q4.
Saudi and Russia don't have to cut, market will rebalance as the price cannot stay here. That said, we might not be heading back to $65 in the short term, but $40-45 brent looks like a balancing point within a few months from an economic standpoint when taking both supply and demand into consideration.
Long term this will fuel a big rally in oil, as supply will lag demand when things return to normal.
This is not a financial crisis. The banking system isn't frozen and massive stimulus packages have been put in place that will yield a bull market as soon as people head back to work.
Comming May things will have to return to normal. One cannot crush the economy to save some lives, as the cost of a depression is much higher than the cost of losing a small proportion of the population.
A life has an economic value, and the further down the road you've come, the more your price has depreciated. You won't be able to get a life insurance policy at 70 as you're down to salvage value by then.
Life goes on, this is not the end of the world.
Best, HMH
As the week has gone on my pessimism has increased regarding a recovery in oil prices.
I started the week thinking that a reversal in policy by OPEC+ could save the day but it is becoming increasingly clear now that even with a complete about turn by KSA and Russia would have little impact on the oil price - although it could stop it falling further.
The simple fact is that when the world crude supply capacity is reached crude production around the world will have to reduce anyway to match demand and that demand has been severely impacted by the coronavirus.
With the US now just starting to feel the full effects of virus things are only going to get worst especially as their leaders don't seem to be handling the situation very well - although in a totally callous way Trump's actions will cost many more lives but restrict the financial pain.
The stimulus for recovery will come from China but only when they have a market place again for their manufactured goods - it will be a long wait. Also China are filling their supply capacity with cheep Saudi and Russian oil cutting out other oil producers.
In conclusion, I think crude prices will remain at these levels with little improvement for an extended period throughout the rest of 2020 and maybe well into 2021-22.