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The global market is still awash with crude

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By Ed Crooks: 14 October 2016

As the new Nobel prize-winner for literature once put it, something is happening here. The successful IPO this week by a US exploration and production company, Extraction Oil & Gas, was the first in the sector since crude prices started to slide in the summer of 2014. Along with the slide in energy junk bond yields, and signs of a corresponding thaw in E&P junk bond issuance, which has been essentially frozen all year, it is clear evidence that investor confidence in the US oil industry is returning.

For Opec members trying to finalise the details of the production cut plan that they agreed in Algiers this month, the latest signs of life in the US make for a gloomy backdrop.

From the time Saudi Arabia embarked on its strategy of allowing a global glut of crude to drive out rival producers, the best chance of success against US shale companies always lay in cutting off the capital inflows that kept them alive. In some respects that effort clearly failed: 2016 has been a record year for US E&P equity issuance. But the dearth of IPOs and junk bond issuance were signs of success. Now even those victories appear to be slipping away. The point was sharply made in a cartoon from Upstream Online, posted on Twitter by Nick Grealy.

Oil and energy ministers from some Opec member states and Russia held informal talks this week on the sidelines of the World Energy Congress in Istanbul. Mohammed Barkindo, Opec’s secretary-general, said the group had “a firm commitment from the Russian Federation to participate in the consensus.” Igor Sechin, head of the state-controlled oil company Rosneft, sounded less than enthusiastic, even though his boss Vladimir Putin had earlier in the week said Russia was “ready to join in joint measures” with Opec. Analysts suggested the mixed signals could reflect disagreements within Russia over whether or not to work with Opec, or constructive ambiguity over its position.

Helima Croft of RBC suggested Opec and Russia would be aiming for a deal that kept crude between $50 and $60 per barrel, which would still not be high enough to bring the whole US shale industry back to renewed vigour again. Meanwhile, all the talk has not altered the fact that the global market is still awash with crude.

The prospect of a potentially sustained period of prices at around current levels, regardless of what Opec does, is forcing all oil producers to adjust. BP, for example, has cut costs to the point where it expects to be able to cover its capital spending and dividend payments from its operating cash flow next year at an oil price of $50-$55. An exploration programme in the Great Australian Bight is one of the plans that has been cut in the effort to hit that objective.

Saudi Arabia is working on another ambitious diversification away from oil, preparing to launch a new $100bn technology investment joint venture with SoftBank of Japan, seeded with up to $45bn from the kingdom’s Public Investment Fund.

The challenges facing the oil industry are very sharply delineated in an excellent paper from Abdlatif Al-Hamad and Philip Verleger for the Group of 30: ‘Oil and the Global Economy’.

One of the forces driving a transformation of the oil industry, the authors write, is the shift to lower-carbon energy driven by climate policy. The UK government’s independent Committee on Climate Change published an assessment of the country’s strategy following the Paris agreement, which also serves as a useful guide to progress on greenhouse gas emissions reduction worldwide. US carbon dioxide emissions from energy dropped in the first half of this year to their lowest since 1991, thanks to a mild winter and reduced coal use.

Climate activists on Tuesday disrupted flows of oil from Canada into the US by turning off valves, a type of attack that is hard to stop. The action followed the arrest of the actress Shailene Woodley at a protest against the Dakota Access oil pipeline, which is becoming an increasingly prominent political issue in the US.

Other views

Nick Butler: The Saudis’ strategic failure

Quote of the week

Just as the reliable oil production we’ve been seeing over the past couple of years has happened because of healthy investment, I’m concerned that we’ll have the opposite effect over the next decade” – Amin Nasser, chief executive, Saudi Aramco, speaking at the World Energy Congress in Istanbul.

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