Returning To Market Balance: How Will Prices Respond? · 5/10/2016 · *Crudeoil estimated from...

LabyrinthConsultingServices,Inc. artberman.com 1

Returning To Market Balance: How Will Prices Respond? Art Berman Labyrinth Consulting Services, Inc. Ray Leonard Hyperdynamics

South Texas Geological Society San Antonio, Texas May 10, 2016

AReturnToHigherOilPricesIsComplicated• Weareinthethirdoil-pricerallysincepricescollapsed—pricesare>60%higherthanin

January:$44vs.$27perbarrel.• Thisrallyissimilartotheprevioustwobutmayenddifferentlybecauseofimprovingmarket

fundamentalsandgrowingconcernaboutsupplyfromunderinvestment.• DatatodayfromEIAsuggeststhattheglobaloilmarketisreturningtobalance.• Recentworldevents—failureoftheDohaproductionfreeze,dismissalofAl-Naimi—havenot

affectedoilpriceslikeinthepast.• Theweakglobaleconomymaynotbeabletosustainmuchhigheroilprices.• Everyone’sbreak-evenpriceincludingOPEC’sishigherthancurrentprices.• TheU.S.E&Pbusinessisincriticalcondition.• Abalancedoilmarketdoesnotnecessarilymeanareturntohigheroilprices.• Becauseofaprofoundlychangedeconomyandassociatedmonetarypolicies,wehavecrossed

aboundaryandareturntohigheroilpricesiscomplicated.

EnergyIsTheEconomy:TheContextforTheOil-PriceCollapse

• Peoplethinkthattheeconomyrunsonmoneybutitrunsonenergy–NateHagens.

• Today,oilandgasprices&theeconomymustbeviewedthroughthedebtlens.

• Theendofcheapoilandnaturalgasintheearly2000sledtofinancialdislocationsandultimately,theFinancialCollapseof2008.

• Becauseofresourcescarcity,oilpricesincreasedfromabaselineof$33/barrelinthe1990stoanaveragepriceof$99/barrelfromlate2010untilSeptember2014.

• Post-collapsemonetarypolicyfocusedonforcingconsumptionandinvestment:zerointerest&furtherexpansionofcredit.

• E&Pcompanieshadalmostunlimitedaccesstocapital.• Itisimpossibletounderstandandcriticallyevaluateshalegas

ortightoilwithoutthiscontext.

WhatReallyControlsOilPrices?

• Futuresmarketscontroloilpricestoday.• Thesereflectacollectiveunconsciousthatincludesworldevents.• Massiveoilinventoriesskewthecontext.• Theworldeconomyisacasino.

GlobalOilOutputandOver-Production:HowWeGotHere

• Over-productioncausedtheoil-pricecollapse:aclassicbubble.• Low-interestratesandcurrencydevaluationaftertheFinancialCollapseof2008-2008enabled

over-investmentandover-production:cheapmoneyandhighoilprices.• Higheroilpricesprovidedincentivetoproducemoreexpensive,unconventionaloil:tightoil

(shale),oilsandsanddeep-wateroil.• 7.1mmbpdincreasefrom2009-2015leadtoproductionsurplusbyFebruary2014thatpeakedin

May2015andagaininNovember2015.• Maincontributorstoover-production:U.S.+Canada,Iraq,BrazilandRussia.

60,000

62,000

64,000

66,000

68,000

70,000

72,000

74,000

76,000

78,000

80,000

82,000

2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015

ThousandsofBarrelsPerD

World CrudeOil&CondensateProduction

Source:EIA&Labyrinth Consulting Services,Inc.

2003-2009ProductionPlateau~72.5mmbpd

2010-2015~7.1mmbpdincrease

Jan-14

Feb-14

Mar-14

Apr-14

May-14

Jun-14

Jul-14

Aug-14

Sep-14

Oct-14

Nov-14

Dec-14

Jan-15

Feb-15

Mar-15

Apr-15

May-15

Jun-15

Jul-15

Aug-15

Sep-15

Oct-15

Nov-15

Dec-15

Jan-16

Feb-16

Mar-16

MillionsofBarrelsofCrudeOilPerDay

IncrementalCrudeOilProductionSinceJanaury2014

U.S.+Canada Iraq Brazil Russia SaudiArabia Iran

U.S.+Canada

+1.3mmbpd

Iraq+1.1mmbpd

Russia +04

Saudi Arabia

+0.0mmbpd

Brazil-0.1

Productionfromthesecountrieswas3.03

mmbpdmoreinFeb2016thaninJan2014.

1.3mmbpdfromU.S.&1.1mmbpdfromIraq:

2.4mmbpd,78%ofincrease.

Russiaadded0.36mmbpd.

Iranincreased0.4mmbpd

sinceDecember2015.

Source: EIAandLabyrinthConsulting Services,Inc.

+0.4mmbpd

*Crude oilestimatedfromliquidsproduction forBrazil, Canada&Russia

GlobalMarketBalanceandTightOilOver-Production

• Currentglobaloilmarketisover-suppliedby~0.57millionbarrelsofliquidsperday.• Productionsurplusincreasedto>3mmbpdbyMayandNovember2015&hasdeclinedsince

then.• Themarketismovingtowardbalance.• Consumptionhasincreased.EIAnowforecasts1.4mmbpdgrowthin2016.Howmuchis

consumptionbasedonlowprices?• Theoriginsofover-supplyofoilandlowoilpricesarefound,ironically,inincreasedscarcityof

petroleumresources.• Scarcerresourcesledtohigherpricesthatpermittedproductionofunconventionaloil.• Over-investmentbecauseofhighpricesandeasycreditledtoover-production,over-supplyand

loweroilprices.

TheEndofCheapOil

• Oilpriceshaveonlybeenmorethan$90/barrel(March2016dollars)3times:aftertheoilshocksofthe1970sandearly1980s,beforethe2008FinancialCollapse,and2010-2014.

• Forthelast15yearsofthe20thcentury,oilpricesaveraged$33/barrelandwerepartlyresponsibleforeconomicprosperityintheUnitedStates(Reagan-Bush-Clintonera).

• LowpercentofGDPspentonenergy.• DuringtheAsianFinancialcrisisin1998,oilpricesreachedlowestlevelsince1950($16.49/

barrel).• Cheapoilendedintheearly21stcentury—flatproduction&increaseddemandfrom

developingworldespeciallyChina.• Longestperiod(44months)ofhighoilpricesaftertheFinancialCollapse.

TheCollapseofWorldOilPrices

• Marketbalanceexpressedbyrelativesupplysurplusordeficit(supplyminusdemand).• PeriodofsupplydeficitbeforetheFinancialCollapsecontributedtohighoilprices.• AsupplysurplusbecauseoflowdemandaftertheFinancialCollapse(2008-2009).• Periodofsupplydeficitmostof2011-2014becauseofsupplyinterruptionsintheMiddleEast.• Growingsupplysurplusbeginningin1stquarterof2014causedcollapseofoilprices.• Thesurplusreachedamaximuminthe2ndquarterof2015(2.2mmbpd)andhasgenerally

improvedsincethenwithfallingproductionbutremainsmorethan1.5mmbpd.

• LargereductioninE&Pinvestmentin2015andprobablyevengreaterin2016.• Deferredinvestmentsin2015equivalentto20billionbarrelsofreserves.• GlobalE&Pestimatedcapexfor2016is44%(-$412billion)of2014.• Asubstantialsupplydeficitwillresultinthenot-too-distantfuture.• Apricespikeseemsunavoidable.

TheBigPictureOnOilPrices:Under-Investment

TheBigPictureOnOilPrices:E&PDebt

• OilcompanieshavereliedondebtduringgoodandbadtimessincetheFinancialCollapse.

• SecondaryshareofferingsinU.S.E&PcompaniesarealreadyhigherYTD2016thanin2015.

• Pioneer$1.4billion,Devon$1.3billion.• Investorsarelookingforthebottom.• ~$140billioninjunkbonddebtcomingdueover

next7years.• Hugebankexposuretoenergydebt.• Butcompaniesarespendingmorethanthey

earnfromoperations.

TheBigPictureOnOilPrices:MonetaryPolicy

• Interestrateshavebeenalmostzerosincethe2008FinancialCollapse.• 8yearsofzero-interestratepolicyhavedistortedinvestmentsandthe

economy.• Investorsseekyieldbecausetraditionalinvestmentshavealmostnone.• U.S.E&Pcompaniesbecameanattractiveinvestmentbecauseofhighyieldand

relativelylowrisk.

TheBigPictureOnOilPrices:MonetaryPolicy

• AnegativecorrelationbetweenthevalueoftheU.S.dollarandworldoilprices:agloballyconnectedeconomyinwhichcountriescompeteforinvestmentbasedoninterestratesandcurrencyvaluation.

• OiltransactionsaredenominatedinU.S.dollarsastheworldreservecurrency.• HigherU.S.interestratesfavorinvestmentsintheU.S.economyovercommoditieslike

oil.Whenthedollarisstrong,oilpricesaregenerallylowerandviceversa.• Thecorrelationbetweenoilpriceandthedollarisespeciallystrongsince2015and

partlyexplainspricecycles.• ThelatestpricerallybeganaftertheFederalReserveBankindicatedthatfurther

interestrateincreasesin2016wereunlikely.

4-Jan-16

11-Jan-16

18-Jan-16

25-Jan-16

1-Feb-16

8-Feb-16

15-Feb-16

22-Feb-16

29-Feb-16

7-Mar-16

11-Apr-16

18-Apr-16

25-Apr-16

2-May-16

9-May-16

WallStre

urnalD

ollarIndex

NYMEXW

TIPrice($/Barrel)

NYMEXWTIPrice&WSJDollarIndex

WTINYMEXPrice WSJDollarIndex

$26!Support

$36!Support

WTI!(LHS)Dollar Index!(RHS)

Source: EIA,WallStreetJournal&LabyrinthConsultingServices,Inc.

Longdollar!futures!bets!sold!on!doubts!about!Fed!rate!hikes

Declining!dollar!value

$46!Resistance

PriceCycleTrendsandPriceVolatility

• Oilpricesincreasedfrom$26to$46perbarrelduringthecurrentJanuary–Maypricerally.• ThiswasbasedpartlyonhopeforanOPEC-plus-Russiaproductionfreezebutmostly,thecollectiveunconscious

wasfedupwithlowoilprices.• Thereweretwomajorpricecyclesin2015:March-August($44-$60-$38perbarrel)andAugust-January($38-

$49-$27perbarrel).• Bothofthesecycleslastedapproximately150days(5months).• Oil-pricevolatilitywasgenerallyhighatthebeginningsandendsofthecyclesandgenerallylowduringtheir

peaks.

ThePresentPriceCycle

• Pricesincreasedfrom$26.55to$33.62inlateJanuaryandthendroppedto$26.21onFebruary11.• This$27“double-bottom”patternprobablytestedthesupportlevelforthegreateroil-pricecollapsethatbeganinJune

2014.• Pricesincreasedto$41.45onMarch22overaperiodof40days,thenfellto$35.70overthenext12daysbefore

peakingat$46.03onApril28.$46wastheupperresistancelevel.• The$35.70lowprobablytestedasupportlevel.• Pricesarenowfluctuatingbetween$42and$44/barrel.• Volatilitypatternsgenerallyareconsistentwithearliercyclesbutitistooearlytosayhowthesearedeveloping.• Thetotaldurationofthiscycleis109dayssofar.

U.S.ProductionDecline

• Marchproductionfellto8.98millionbarrelsperday,100,000barrelsperdaylessthaninFebruary.

• 720,000barrelsperdaylessthanpeakproductioninApril2015.• EIAforecaststhatproductionwilldropanother880,000barrelsperdaybySeptember2016fora

totaldeclineof1.6millionbarrelsperdaycomparedtoApril2015.• AverageQ12016declinerateof60,000bpd/month.

9.34 9.45 9.65 9.69

9.32 9.43

9.41 9.45

8.10 8.19 8.26

7.99 8.16 8.29 8.33

Jan-15

Feb-15

Mar-15

Apr-15

May-15

Jun-15

Aug-15

Sep-15

Oct-15

Nov-15

Dec-15

Jan-16

Feb-16

Mar-16

Apr-16

May-16

Jun-16

Aug-16

Sep-16

Oct-16

Nov-16

Dec-16

Jan-17

Feb-17

Mar-17

Apr-17

May-17

Jun-17

Aug-17

Sep-17

Oct-17

Nov-17

Dec-17

WTIPrice($/Barrel)

MillionsofBarrelsofCrudeO

ilPerDay

U.S.CrudeOilProduction andForecast

CrudeOilProduction WTI

720!kbpd!decline!since!April!2015(100 kbpd!since!March)

Oil!Production(LHS)

WTI!Price!(RHS)

Source:EIAMay 2016STEO&LabyrinthConsultingServices,Inc.

1.6!mmbpd!decline!forecast!by!Sept!2016

InventoriesRemainAnObstacleToPriceRecovery

• U.S.stocksarenearrecordhighlevelsof543millionbarrels:61millionbarrelsmorethanatthistimein2015and137millionbarrelsmorethanthe5-yearaverage.

• OECDstocksarealsoatrecordlevelsof3.13billionbarrelsofliquids.• Thatis359millionbarrelsmorethanthe5-yearaveragebut54%ofthosevolumesare

U.S.stocks.

January February March April May June July August September October November December

BillionsofBarrelsofLiquids

OECDLiquids Inventories

2015 2014 2013 2012 2011 2016

2016!Inventory

359!mmb!above the!5-year!average192!mmb!(54%)!is!USA 2015

20142012

20132011

Source:EIA&LabyrinthConsultingServices,Inc.

ComparativeInventoriesAreFalling

• Comparativeinventoryisdeterminedbycomparingcurrentstockswithamovingaverageofstocksoverthepast5years.

• Thetwopreviouspricecyclesin2015werebothcharacterizedbyfallingcomparativeinventories.WhenC.I.patternsreversed,pricesfell.

• Thecurrentpricecycleshowsadecreaseincomparativeinventories.• Front-to-backfuturesspreadstypicallyfallwithdecreasinginventoriesbecauseshort-

datedcontractsgainvaluecomparedtolonger-datedcontracts.• Thepasttwocyclesendedbecauseproducersincreaseddrillingandproductionat

higherprices.

1/2/15

5/8/15

6/5/15

7/3/15

10/9/15

10/23/15

11/6/15

11/20/15

12/4/15

12/18/15

1/1/16

4/8/16

December-June2016FuturesP

riceSpread(DollarsPerBarrel)

ComparativeInventory(M

illionsofB

arrelsofCrudeOIl)&W

TIPrice($/Barrel)

Cushing+GulfCoastComparativeInventories

FuturesSpread WTI Comparative Inventory

Dec-June!2016!Futures!Price!Spread!(RHS)

Comparative!Inventory!(LHS)

WTI!(LHS)March!-August!2015!

Source:EIA,CME&Labyrinth Consulting Services,Inc.

August!-October!2015!Price!Cycle

March!-April 2016!Price!Rally

Falling!ComparativeInventories

CrudeOilInventories,OilConsumptionandWTIPrices:2016PriceRally

• Inthecurrentpricerally,consumptionhasincreasedfollowingrecordlowpricesfromDecember2015throughFebruary2016.

• Veryhighstocklevels.• Consistentproductiondeclineof~60,000barrelspermonthsinceSeptember2015.• 100,000barrelperdaydeclineinAprilislargestmonthlydropsofar.• During2015pricerally,$15perbarrel(41%)priceincreasekilledconsumption.• Incurrentrally,peakpricewasalmost$17abovebaselinewithgreaterpercentincrease(63%)

than2015.

9.34 9.45 9.65 9.69

9.32 9.43

9.41 9.45

8.10 8.19 8.26

7.99 8.16 8.29 8.33

Jan-15

Feb-15

Mar-15

Apr-15

May-15

Jun-15

Aug-15

Sep-15

Oct-15

Nov-15

Dec-15

Jan-16

Feb-16

Mar-16

Apr-16

May-16

Jun-16

Aug-16

Sep-16

Oct-16

Nov-16

Dec-16

Jan-17

Feb-17

Mar-17

Apr-17

May-17

Jun-17

Aug-17

Sep-17

Oct-17

Nov-17

Dec-17

WTIPrice($/Barrel)

MillionsofBarrelsofCrudeO

ilPerDay

U.S.CrudeOilProduction andForecast

CrudeOilProduction WTI

720!kbpd!decline!since!April!2015(100 kbpd!since!March)

Oil!Production(LHS)

WTI!Price!(RHS)

Source:EIAMay 2016STEO&LabyrinthConsultingServices,Inc.

1.6!mmbpd!decline!forecast!by!Sept!2016

Jan-15

Feb-15

Mar-15

Apr-15

May-15

Jun-15

Aug-15

Sep-15

Oct-15

Nov-15

Dec-15

Jan-16

Feb-16

Mar-16

Apr-16

Consum

ption/2.5&Stocks/60(M

illionsofBarrels)

WTIPrice($/Barrel)

U.S.Consumption, Stocks&WTIPriceWTIPrice Consumption Stocks

WTI!Price (LHS)

Consumption!(RHS)

Stocks!(RHS)

Source:!EIA&!Labyrinth!Consulting!Services,!Inc.

Apr-JunPrice!Rally

Sept-OctPrice!Rally

Mar-May!Rally

TheLong-TermPerspectiveOnOilPrices

• Averageoilprice1950-Present:$45perbarrel.• Modaloilprice:$25perbarrel.• Presentprice:$44.68perbarrel.• 1986-1999:$33perbarrel.• Theendofcheapoilinthe21stcenturyledtofinancialdislocationsand

ultimately,theFinancialCollapseof2008.

APerspectiveOnBreak-EvenPrices

• Therehasbeenalottalkaboutlow-andhigh-costproducerssincetheoil-pricecollapseof2014.

• IMFpublishedfiscalbreak-evenpricesforOPECin2015.• Wehavedeterminedbreak-evenpricesforthecoretightoilplaysintheU.S.• Everyoneneedspriceshigherthantoday’stobreakeven.• Realistically,$70perbarrelistheminimumforthemostlower-costproducers.• MostOPECmembersneedmorethan$80tobreakeven.• U.S.tightoilplayslookprettygoodinthiscompany!

$119$115

$97 $95$89 $89 $86

$71 $70 $69 $67 $65

Algeria

Bahrain

Average

SaudiA

ianCore

UAE Iraq

EagleFordCore

BakkenCore

Kuwait

FiscalBreak-EvenPrice(DollarsPerBarrel)

IMFProjected2016FiscalBreak-Even&U.S.TightOilPrices

Source: IMF!&!Labyrinth!Consulting! Services,!Inc.

TightOilE&PCompaniesAreFailing

• U.S.tightoilandshalegasE&Pcompaniesarefailingbasedonfirstquarter2016earningsreports.

• Allthetightoil-weightedcompanieshadnegativecashflowinQ12016exceptEPEnergyandOccidentalPetroleum.

• Onaverage,companiesspenttwiceasmuchastheyearned;manyspent>2.5x.• 15-foldincreaseindebt-to-cashflow.1992-2012averagewas1.5.Q12016was33.0.• Companiesaremanagingtheirnegativecashflowbyspendingalmostnothingand,

therefore,earningalmostnothing.• Thosewhobelievethatthingswillreturntonormalwithsomewhathigheroilpricesneed

tothinkagain.

AReturntoHigherOilPricesIsComplicated

• Thecurrentpricecyclemayrepresentthebeginningofanoil-pricerecovery.• Theglobalmarketappearstobemovingquicklytowardbalancewithhigherconsumptiongrowth.• Comparativeinventoriesarefalling.• Chartpatternssuggestthatabottommayhavebeenestablishedat$26-$27perbarrelandat$36/barrel.• Thelikelypathforwardwillbemorepricecyclesbutthistime,withhigherratherthanlowerendingprices.• Whatisareasonablepricerecoverylevel?Historysuggests$45perbarrelbuteveryoneneedsmorenowto

breakeven.Evenwithmarketbalance,priceswillprobablynotreturnto2011-2014”normal”prices.• Aweakglobaleconomyandweakerdemandwithhigheroilpricesarethebiggestriskstooil-pricerecovery.• Wecrossedaboundaryin2014andoldrulesnolongernecessarilyapply.

Returning To Market Balance: How Will Prices Respond? · 5/10/2016 · *Crudeoil estimated from...

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