141107 Energy Monitor Nov.docx

Energy Monitor November
Group Economics
Commodity Research
In thrall to OPEC
10 November 2014
• Oil prices down almost 30% on oversupply, stronger dollar and lower expected demand
• All eyes on OPEC for oil price direction in 2015 in supply-driven market
• Lower oil prices provide unexpected support for global growth
Figure 1: Price of Brent crude versus WTI crude per
month (in USD/bbl)
115
110
- 28%
105
100
95
90
85
80
75
jan feb mrt apr mei jun jul aug sep okt nov
Brent
WTI
Source: ABN AMRO Group Economics, Thomson Reuters
Figure 2: Russia’s crude oil main export destinations
Unexpected (but predictable) sharp fall in oil prices
Oil prices have plunged by almost 30% since the summer (Figure 1).
Though the timing and speed of this enormous drop took many by
surprise, a downward adjustment of this magnitude had long been on
the cards. Some time, various arguments – see below – had pointed
to a downward correction of oil prices. However, the price decline
failed to materialise due to geopolitical tensions and the attendant fear
that oil production would be hit, as well as the weak dollar and upbeat
expectations for economic recovery (which would spur demand for oil).
These factors initially conspired to keep oil prices hovering within a
bandwidth of roughly USD 105-115/barrel. But things changed this
summer, when several downward driving forces affecting oil prices
simultaneously fell into place:
The oil supply accelerated unexpectedly quickly, both from
OPEC and non-OPEC countries. Geopolitical tensions
proved to have no effect on oil production. And the risk
premium decreased further.
The high demand expectations for oil were revised down in
response to disappointing economic data from China,
Europe (particularly Germany) and the US.
The dollar appreciated in value due to monetary policy
divergences between the US and Europe.
The final argument was the announced price cut for US
customers of Saudi oil, signalling that OPEC may be
focusing on beating competition from the US and retaining
market share.
(2012)
The extent of the price drop seems out of line with the trend of the
past two years. However, a glance at a slightly longer-term chart
reveals that a decline in the USD 75-80/barrel bandwidth is not
unusual (Figure 2). USD 80 is seen as a key level as it is assumed to
be equivalent to the average cost price of many oil-producing
countries. Moreover, the fiscal budget of Saudi Arabia is now based
on an oil price of about USD 80/barrel. The rapid recent price drop
towards this level is consistent with this pattern.
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110
100
Short-term focus on OPEC
90
80
70
60
2010
2011
Brent
2012
2013
2014
WTI
Source: ABN AMRO Group Economics, Thomson Reuters
OPEC is due to meet on 27 November to discuss the developments in
the oil market and possible actions. During this scheduled meeting,
the OPEC production quota for 2015 will also be set. Given that the oil
price has fallen rapidly, the market is looking to the only party who has
so far proved to be a stabilising factor: Saudi Arabia. The big question
is whether Saudi Arabia will once again be prepared to assume the
role of ‘swing producer’. The market widely expects Saudi Arabia, and
hence OPEC as a whole, to lower production in support of the oil
price.
In our view, however, OPEC is more likely to leave the production
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Energy Monitor November - In
thrall to OPEC
10 November 2014
Figure 3: OPEC production: actual vs quota (in mb/d)
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33
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31
30
29
28
27
2010
2011
2012
Total OPEC production
2013
2014
OPEC production quota
Source: ABN AMRO Group Economics, Thomson Reuters
Table 1: ABN AMRO oil and gas price forecast
(Oil: USD/barrel, HH: USD/mmBtu, TTF: EUR/MWh)
Price
Q4 2014
Q1 2015
Q2 2015
2014*
2015*
Brent
90
95
90
105
90
WTI
85
90
85
95
85
4,00
4,25
4,50
4,25
4.50
21
20
19
21
19
HH**
TTF***
Source: ABN AMRO Group Economics
* year average ** Natural Gas Henry Hub *** Title Transfer Facility
(Please see our Quarterly Commodity Outlook for details regarding
our longer term forecast)
quota unchanged and maintain the agreed output level at 30 million
barrels per day, while relying on a form of forward guidance to support
oil prices. In the past, this instrument was mainly used by central
banks, such as the ECB and the Fed, to steer the market in a
particular direction. All in all, OPEC has several good reasons to shy
away from official output cuts:
To start with, local unrest is causing severe production
swings in some OPEC countries. Libya is a good example:
production increased from about 200,000 barrels per day in
May to almost 800,000 in September. Whether this level is
sustainable remains to be seen. OPEC will take these output
volatilities into account.
As is evident from Figure 3, oil production can be cut within
the current arrangements. Over the past years, production
has exceeded the agreed target, despite all the unrest in the
region. A lower target will therefore not necessarily lead to
less oil in the market.
Maintaining the quota can create scope for other OPEC
countries to notch up production in line with the
arrangements/ambitions at the expense of Saudi oil
production.
In addition, OPEC will not stand back and allow increased
demand for oil in Asia to be entirely absorbed by non-OPEC
oil. Asia is shaping up to be the only true growth market for
oil, now that the US is steadily reducing its OPEC oil
purchases and demand from Europe looks set to fall further
in the coming years.
Finally, Saudi Arabia recently reduced the price for US
customers in order to remain competitive against locally
produced oil. This put extra pressure on oil prices and
seems to suggest that Saudi Arabia has no interest in cutting
production. This strategy is at odds with the probable effect
on prices of an announced production cut.
Going forward, the USD 75-80/barrel bandwidth is likely to be tested,
and an even lower price cannot be ruled out in the short term. Even
so, this effect would appear to be only temporary. We expect an
upward price correction before the end of the year, driven by several
factors: 1) unreliable oil production/exports from countries with internal
unrest, such as Libya, 2) the removal of uncertainties over the OPEC
production quota for 2015, 3) the postponement of projects that are
not commercially viable at a price under USD 80/barrel, and finally 4)
profit-taking and/or closing of speculative short positions before the
end of the year.
Economic consequences of lower oil prices
Even assuming that oil prices recover to a certain extent, the average
oil price will remain substantially lower than in the past years. This will
have major consequences, both in macroeconomic terms and for
individual companies, particularly international oil concerns. At a
global macroeconomic level, lower oil prices are generally good news.
A lower oil price brings about a shift in wealth from oil exporters to oil
importers. Oil-consuming countries are generally more prepared to
spend the ‘additional’ capital. The rule of thumb is that a
USD 10/barrel price drop gives the global economy an extra growth
impulse of some 0.3%, implying that the recent USD 30/barrel price
fall will contribute almost 1% to economic growth – a welcome boost
for the fragile global economy. But can the oil producing countries
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Energy Monitor November - In
thrall to OPEC
10 November 2014
100
cope with this shift in wealth? After all, they need sufficient oil
revenues to invest in the energy sector and maintain oil production at
the required level as well as to continue meeting their social and fiscal
obligations. For this reason, oil prices must, and will, stabilise. Finding
a new balance will inevitably go hand in hand with oil price volatility
over the coming years. During this quest, we expect the average oil
price to continue edging lower year-on-year. See Table 1 for our oil
price outlook.
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Consequences of low oil price for oil companies
Figure 4: GDP (in %) vs Oil Price (in USD/barrel)
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15
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5
0
80
70
-5
60
-10
2009
50
2010
Eurozone
2011
US
2012
2013
2014
China
Oil (rha)
Questions have been raised as to whether the oil price is a key driver
of the profits of international oil companies (IOCs). Companies like BP,
Total and ConocoPhillips recently announced lower-than-expected
third-quarter figures, citing low oil prices as the main reason for their
disappointing results. Nevertheless, other oil companies such as
Royal Dutch Shell, ExxonMobil and Chevron actually posted higher
results, despite the lower oil prices. This can partly be explained by
their higher revenues from refinery activities, the costs of which have
fallen thanks to the lower prices. The conclusion, therefore, is that oil
prices most definitely have a bearing on the profits of IOCs.
Source: ABN AMRO Group Economics, Thomson Reuters
However, cash flow expectations are often more important than
reported profits. Cash flows are not only determined by reported
profits on existing assets (oil and gas price times produced/sold
volumes minus the cost price of the extraction of oil and gas) but also
by the costs (operating expenses and investments) incurred to
develop new fields. Regarding the market valuation of the large IOCs,
the main priority of their shareholders is to secure a reliable dividend.
To pay out this dividend (and maintain a stable balance sheet), the
IOC must at least generate sufficient operational cash flow to not only
make the required future investments, but meet their dividend
obligations.
Figure 5: TTF gas / Henry Hub gas price ratio
Source: ABN AMRO Group Economics, Thomson Reuters
If the oil price falls, IOCs must adjust their cash flow in line with the
falling selling prices. They will initially put a brake on this by reining in
their expenditures, particularly in relation to future projects that are
expected to involve high initial costs whilst only contributing to the
result after many years. They will also seek to take advantage of any
scope to negotiate lower prices with subcontractors. New contracts
with subcontractors are already a quarter cheaper than one year ago.
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Energy Monitor November - In
thrall to OPEC
10 November 2014
Group Economics | Commodity Research
Hans van Cleef
Senior Energy Economist
tel: +31 (0) 20 343 4679
[email protected]
Group Economics
Commodity Research team
Marijke Zewuster (Head)
tel: +31 20 383 0518
[email protected]
Hans van Cleef (Energy)
tel: +31 20 343 4679
[email protected]
Casper Burgering (Ferrous, Base metals)
Georgette Boele (Precious metals)
tel: +31 20 383 2693
tel: +31 20 629 7789
[email protected]
[email protected]
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