Jan 152016
 
 January 15, 2016  Posted by at 8:03 am Finance Tagged with: , , , , , , , , , ,
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Russell Lee Tracy, California. Tank truck delivering gasoline to a filling station 1942

The first thing that popped into our minds on Tuesday when WTI oil briefly broached $30 for its first $20 handle in many years, was that this should be triggering a Gawdawful amount of bets, $30 being such an obvious number. Which in turn would of necessity lead to a -brief- rise in prices.

Apparently even that is not so easy to see, since when prices did indeed go up after, some 3% at the ‘top’, ‘analysts’ fell over each other talking up ‘bottom’, ‘rebound’ and even ‘recovery’. We’re really addicted to that recovery idea, aren’t we? Well, sorry, but this is not about recovering, it’s about covering (wagers).

Same thing happened on Thursday after Brent hit that $20 handle, with prices up 2.5% at noon. That too, predictably, shall pass. Covering. On this early Friday morning, both WTI and Brent have resumed their fall, threatening $30 again. And those are just ‘official’ numbers, spot prices.

If as a producer you’re really squeezed by your overproduction and your credit lines and your overflowing storage, you’ll have to settle for less. And you will. Which is going to put downward pressure on oil prices for a while to come. Inventories are more than full all over the world. With oil that was largely purchased, somewhat ironically, because prices were perceived as being low.

Interestingly, people are finally waking up to the reality that this is a development that first started with falling demand. China. Told ya. And only afterwards did it turn into a supply issue as well, when every producer began pumping for their lives because demand was shrinking.

All the talk about Saudi Arabia’s ‘tactics’ being aimed at strangling US frackers never sounded very bright. By November 2014, the notorious OPEC meeting, the Saudi’s, well before most others including ‘analysts’, knew to what extent demand was plunging. They had first-hand knowledge. And they had ideas, too, about where that could lead prices. Alarm bells in the desert.

There are alarm bells ringing in many capitals, there’s not a single oil producer sitting comfy right now. And that’s why ‘official’ prices need to be taken with a bag of salt. Bloomberg puts the real price today at $26:

The Real Price of Oil Is Far Lower Than You Realize

While oil prices flashing across traders’ terminals are at the lowest in a decade, in real terms the collapse is even deeper. West Texas Intermediate futures, the U.S. benchmark, sank below $30 a barrel on Tuesday for the first time since 2003. Actual barrels of Saudi Arabian crude shipped to Asia are even cheaper, at $26 – the lowest since early 2002 once inflation is factored in and near levels seen before the turn of the millennium. Slumping oil prices are a critical signal that the boom in lending in China is “unwinding,” according to Adair Turner, chairman of the Institute for New Economic Thinking.

Slowing investment and construction in China, the world’s biggest energy user, is “sending an enormous deflationary impetus through to the world, and that is a significant part of what’s happening in this oil-price collapse,” Turner, former chairman of the U.K. Financial Services Authority, said. The nation’s economic expansion faltered last year to the slowest pace in a quarter of a century. “You see a big destruction in the income of the oil and commodity producers,” Turner said. “That is having a major effect on their expenditure across the world.”

Zero Hedge does one better and looks at 1998 dollars:

The ‘Real’ Price Of Oil Is Below $17

“You see a big destruction in the income of the oil and commodity producers,” exclaims an analyst but, as Bloomberg notes, while oil prices flashing across traders’ terminals are at the lowest in a decade, in real terms the collapse is considerably deeper. Adjusted for inflation, WTI is its lowest since 2002 and worse still Saudi Light Crude is trading at below $17 (in 1998 dollar terms) – the lowest since the 1980s… Slumping prices are a critical signal that the boom in lending in China is “unwinding,” according to Adair Turner, chairman of the Institute for New Economic Thinking.

In fact, while sub-$30 per barrel oil sounds very scary, Saudi prices would be less than $17 a barrel when converted into dollar levels for 1998, the year oil sank to its lowest since the 1980s. Slowing investment and construction in China, the world’s biggest energy user, is “sending an enormous deflationary impetus through to the world, and that is a significant part of what’s happening in this oil-price collapse,” Turner, former chairman of the U.K. Financial Services Authority, said.

But this still covers only light sweet crude. Heavier versions are already way below even those levels. Question: what does tar sands oil go for in 1998 dollars? $5 perhaps? A barrel’s worth of it fetched $8.35 in 2016 US dollars on Tuesday. And that does not stop production, because investment (sunk cost) has been spent so there’s no reason to cut, quite the contrary.

Crude At $10 Is Already A Reality For Canadian Oil-Sands Miners

Think oil in the $20s is bad? In Canada they’d be happy to sell it for $10. Canadian oil sands producers are feeling pain as bitumen – the thick, sticky substance at the center of the heated debate over TransCanada’s Keystone XL pipeline – hit a low of $8.35 on Tuesday, down from as much as $80 less than two years ago. Producers are all losing money at current prices, First Energy Capital’s Martin King said Tuesday at a conference in Calgary. Which doesn’t mean they’ll stop. Since most of the spending for bitumen extraction comes upfront, and thus is a sunk cost, production will continue and grow.

Another interesting question is where the price of oil would be right now if the perception of low prices had not made 2015 such a banner year for filling up storage space across the globe, including huge amounts of tankers that are left floating at sea, awaiting a ‘recovery’. But that is so last year:

Tanker Rates Tumble As Last Pillar Of Strength In Oil Market Crashes

If there was one silver-lining in the oil complex, it was the demand for VLCCs (as huge floating storage facilities or as China scooped up ‘cheap’ oil to refill their reserves) which drove tanker rates to record highs. Now, as Bloomberg notes so eloquently, it appears the party is over! Daily rates for benchmark Saudi Arabia-Japan VLCC cargoes have crashed 53% year-to-date to $50,955 (as it appears China’s record crude imports have ceased). In fact the rate crashed 12% today for the 12th straight daily decline from over $100,000 just a month ago…

China imported a record amount of crude last year as oil’s lowest annual average price in more than a decade spurred stockpiling and boosted demand from independent refiners. China’s crude imports last month was equivalent to 7.85 million barrels a day, 6% higher than the previous record of 7.4 million in April, Bloomberg calculations show.

China has exploited a plunge in crude prices by easing rules to allow private refiners, known as teapots, to import crude and by boosting shipments to fill emergency stockpiles. The nation’s overseas purchases may rise to 370 million metric tons this year, surpassing estimated U.S. imports of about 363 million tons, according to Li Li, a research director with ICIS China, an industry researcher. But given the crash in tanker rates – and implicitly demand – that “boom” appears to be over.

The consequences of all this will be felt all over the world, and for a long time to come. All of our economic systems run on oil, so many jobs are related to it, so many ‘fields’ in the economy, and no, things won’t get easier when oil is at $20 or $10, it’ll be a disaster of biblical proportions, like a swarm of locusts that leaves precious little behind. Squeeze oil and you squeeze the entire economic system. That’s what all the ‘low oil prices are great for the economy’ analysts missed (many still do).

Entire nations will undergo drastic changes in leadership and prosperity. Norway, Canada, North Dakota, Russia. But more than that, Middle East nations that rely entirely on oil, a dependency that won’t allow for many of their rulers to remain in office. Same goes for all OPEC nations, and many non-OPEC producers.

We can argue that a war of some kind or another can be the black swan that sets prices ‘straight’, but black swans are supposed to be the things you can’t see coming, and Middle East warfare for obvious reasons doesn’t even qualify for that definition.

The world is full of nations and rulers that are fighting for bare survival. And things like that don’t play out on a short term basis. For that reason alone, though there are many others as well, oil prices will remain under pressure for now.

Even a war will be hard put to turn that trend around at this point. Unless production facilities are destroyed on a large scale, war may just lead to even more production as demand keeps falling. The fact that Iran is preparing to ‘come back online’, promising an even steeper glut in world markets, is putting the Saudi’s on edge. Rumors of Libya wanting to return for a piece of the pie won’t exactly soothe emotions either.

And when, in a few years’ time, all the production cuts due to shut wells become our new reality, and eventually they must, then no, there will still not be an oil shortage. Because the economy will be doing so much worse by then that demand will have fallen more than supply.

Barring large scale warfare in the Middle East there is nothing that can solve the low oil price conundrum. But think about it, which Gulf nation can even afford such warfare in present times? For that matter, which nation in the world can?

The US may try and ignite a proxy war with Russia, but that would lead to an(other) endless and unwinnable war theater. Which would carry the threat of dragging in China as well. The US and its -soon even officially- shrinking economy can’t afford that. Which of course by no means guarantees it won’t try.

Home Forums (Re-)Covering Oil and War

This topic contains 11 replies, has 9 voices, and was last updated by  Dr. Diablo 7 months, 2 weeks ago.

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January 15, 2016 at 8:03 am #26177

Raúl Ilargi Meijer

Russell Lee Tracy, California. Tank truck delivering gasoline to a filling station 1942 The first thing that popped into our minds on Tuesday when WTI
[See the full post at: (Re-)Covering Oil and War]

January 15, 2016 at 12:17 pm #26187

Hotrod

Ilargi,

I believe you are correct. This plunging oil price is a clear signal we are entering a worldwide economic depression. The world is choking on unpayable debt.

January 15, 2016 at 12:44 pm #26188

Dr. Diablo

We’re saved! Now that oil, (and coal,) are no longer being burned, they won’t emit all that nasty carbon into the air. So will that be more deaths worldwide now than if we had a functional economy, or less?

One thing I am confused about (no, really) is how low energy prices can be bad for the economy. It seems axiomatic that high energy prices would be bad for the economy of “getting things done” and fulfilling man’s desires. This would be true of all input costs. So how can it also be bad for energy prices to be low? Is it in the sense of being a dislocation so severe that it becomes not “temporary” but more medium-term?

Surely, as we see from money, adding or removing it, changing price levels, is always disruptive, although it ultimately creates nothing. (it’s a transfer mechanism for existing wealth). Is it similar in this case that the economy would tolerate any energy price somehow, it’s the wasting of resources adjusting to that level–or that constantly changing level and expectation of what level–that’s bad?

Again, if energy is lying around waiting to be used, e.g. a new top-grade coal mine opens or oil is sitting in a tanker ready to burn, it would seem that men just received an enormous windfall. Cheap energy means they can make, do, and build what they want with the least penalty possible; that’s ostensibly what kicked off the Industrial Revolution (moving from limited plant energy and animal labor to abundant British coal). Or is “price” a bad indication of “ease of access”? That is, oil now costs 5c, but nobody has 5c anymore. How can low input costs be bad? Anyone?

  • This reply was modified 7 months, 2 weeks ago by  Dr. Diablo.
January 15, 2016 at 1:06 pm #26189

Hotrod

Dr. D,

I am certainly not an economist, but my theory is that you cannot starve the raw materials sector (farming, mining, fishing) without doing severe damage to the whole economy. The raw materials sector is where the only renewable wealth resides. Almost every other activity is merely shifting payments back and forth and trying to skim some profit off of the transaction. What we have now is what I refer to as the “skimming and scamming economy” where profits are generated off of the people who produce real wealth from basic materials.
This can last for quite some time, but eventually enough producers go bankrupt that supply diminishes and pricing returns to normal. In the 30’s at times farmers could not give away their production at any price. There was no money to buy commodities, even at ridiculously low prices. The low prices and the accompanying economic depression lasted almost 10 years.
So, my theory is that starving the raw material sector will assure a depression as there will be no profits to “trickle up” to everyone else. Just the opposite of accepted economic conventional wisdom.

January 15, 2016 at 6:23 pm #26191

jal

… oil is sitting in a tanker ready to burn,…
… trying to skim some profit off of the transaction. …
… there will be no profits to “trickle up” …
???
When can the oil that is in storage be sold at a profit?

January 15, 2016 at 7:59 pm #26192

Glennda

Hotrod said: ” The raw materials sector is where the only renewable wealth resides. ”
— “renewable”?? That is one of the problems – oil is not renewable, rare earth for solar panels is not renewable, coal is not renewable, the destroyed environment is not renewable. None of it is renewable in the “raw materials sector”.

On top of that, the Reason that prices are so low is that Demand is so low. When the engine of Chinese debt is removed from the picture, there is nothing left of the old Stagnant neoliberal economy. The US economy has been hollowed out along time ago, which is why so many companies that once were European or US are now Global corporations. They are Global companies so they can use Trade treaties to trump laws of national governments.

At least the unprofitable coal and extreme oil extraction may mean the Environment and the planet will get a break. They know the days are numbered for extreme profits from extraction. When the pieces of our economy stop bouncing there will be not money left for Extreme extraction, at least I hope that is the case. But for now they are squeezing the earth’s resources for all they can – they know the days are numbered. Even the Debt pump seems to be dry.

I’ve been worried that TPTB may decide that War is the only answer. It got us out of the Great Depression at the end of the 1930’s. We know the US Military machine is the largest in the world by many exponential numbers. Our weapons have gone to supposed enemies to be used against our poor soldiers. Our “used” military equipment has gone to local city police in great bargain sales. Will the next economic boom be in more prison camps, guards and privatization of it all?

January 16, 2016 at 5:40 am #26197

Doc Robinson

Re: “Squeeze oil and you squeeze the entire economic system.”

I see low oil prices as being largely a result of the current state of the world economy (and some poor business decisions), instead of causing the bad economy. Falling oil prices may be correlated with a worsening economy, but correlation is not causation. The portion of the global economy that directly benefits from lower oil prices is much larger than the portion that suffers losses from falling oil prices, no?

January 16, 2016 at 6:11 am #26198

Raúl Ilargi Meijer

I certainly never said that low oil prices caused the bad economy. Repeated a thousand times that the financial sector doesn’t need any help in blowing up. It’s the other way around.

But taking out of the economy the enormous amounts of liquidity involved in all sectors linked to oil, and doing it as fast as today, is bleeding the system dry.

Even if that liquidity would show up somewhere else -which it largely doesn’t-, the system would need a lengthy period of time to adapt to the changes. As things stand, we’ll see a lot of bankruptcies and job losses in the energy sector, as well as the financial markets.

January 16, 2016 at 11:12 am #26208

Jamesinlondon

Interesting to see this reply on zerohedge:

Because Illargi missed the fucking point entirely.

The caloric energy value of the oil did not change -the rate of emission of the unit of measure for accounting for it and the costs associated with the financialization of it did.

The money/unit of accounting for the caloric/energy output of the oil was debased an confounded with derivatives.

The ‘marginal value of debt’ and ‘inflation’ have nothing to do with calories/energy and everything to do with compounding usury and rents pyramiding.

ENERGY IS THERMODYNAMICALLY DEFINABLE.

CALORIES ARE CALORIES.

‘MONEY’ IS NOT.

‘MONEY’ WITHOUT A BASIS FOR MEASURE IS NOT DEFINABLE.

IMHO: ‘SOUND MONEY’ = STATIC UNIT OF ACCOUNT RATIO TO DELIVERABLE CALORIC/ENERGY OUTPUT.

NO ONE CAN COUNTERFEIT CALORIC OUTPUT.

PERIOD.

January 16, 2016 at 11:54 am #26209

George P

It is very bad for energy prices to be low.

Low prices equal low profits for the oil companies. Drilling is a business that needs constant heavy financing to operate, for it is a capital intensive activity. Low profits means serious financing problems for the drillers, with more collateral needed by the banks than just oil stored in barrels, lets say drilling equipment or Saudi Arabia’s future income from taxes. Let’s not forget that $20 per barrel means inability to pay back loans to the banks. This situation, apart from causing some Big Oil companies to fail, it also means that SA is compelled to selling Aramco stock to NYSE (to rise money to cover for the loss). Aramco is worth around $3 trillion, 4 times the GDP of the UK and by far much more than the net worth of other Big Oil combined. As a result, the worst-timed IPO in history will either deprive the markets from that much liquidity, causing all sorts of problems, like e.g. a financial collapse (the worst case scenario) or will result in low demand (who has money to burn in a recessionary economy?) and cause a collapse in the company’s stock price (the ‘less worst, but very bad’ scenario). Then JP Morgan and HSBC, the people behind the IPO, could get into serious problem; but nothing compared to the trouble the Kingdom could have to face when it won’t be able to pay the salaries of the Saudi citizens or that of the various black-robed, blood-thirsty, head-choping, human flesh eating mercs, with black flags on white Toyota trucks, that need to keep up their Captagon high on a daily basis…

Furthermore, China itself is the real problem. Low demand in oil, steel and other commodities means a collapse in global production (what’s left of it). Low oil price also means the collapse in transportation fees that make cargo shipping, from China to its distant markets, gradually unprofitable. As this article says, only Supertankers (and Supercargo if I may add) are now profitable, due to economies of scale. The result could very well be flash shortages (low supply) to basic commodities, like food, electricity, clothing, iPhones etc. So no more empty megalithic cities designed for a million people but house only a few security guards or the 8-lane superhighways that lead to no place in the desert for China, anymore.

And we haven’t even touched the matter of Peak Everything (as opposed to just the famous Peak Oil which is partially behind this collapse in oil price we see). Both in reality are mainly financial matter. Peak Everything includes, but it is not limited to, the global metal and rare earth extraction reaching its peak production (i.e. its financial viability threshold), way before oil becomes a product for military use only. Without these rare earths, no more Playstations, Oculous VRs, toy drones, iWatches or gold-plated iPhone Bluetooth, WiFi, energy bank selfie sticks. Without metals available, no more Frankfurt ECB fortresses, malls, Teslas, expanded Google headquarters, Amazon delivery drones or iCars can be in store to buy with more and more credit.

As a result, all this we see is not just a matter of low oil prices. It is a Mega Storm of Super Clusterf*cks that is coming our way. Chaos is already inside the system, eating away everything in its path.

January 16, 2016 at 3:29 pm #26210

Jef Jelten

No war…at least not WW1 or 2 style war. So war will not be the panacea that everyone talks about, certainly not the panacea of past wars. Maybe more chaos…much much more chaos…everywhere, even here at home but no nation against nation for obvious reasons.

The oil boom, or I should say the LTO oil boom is what brought the economy around here in the US, Canada too to a certain degree. Hundreds of thousands of very good paying jobs and the booming local economies that that brings.

I said it many times high oil price kills the people economy, low oil price kills the FF economy which effects everything. There is no sweet spot, no price where everyone thrives. I believe they call this PEE COIL or something like that.

January 16, 2016 at 9:28 pm #26211

Dr. Diablo

Was thinking maybe it’s not a matter of if the oil is high or low. The problem is the debt (again). If Oil were cash-only, sure oil could be low because the “value” that used to be there would have rotated into retail, farming, some other sector. It wasn’t its day in the sun but summer doesn’t last forever—it’s summer somewhere else. Sure it might knock off the worst examples, but it doesn’t destroy the industry or the host economy.

What do we have now, worldwide? A chilling shortage of unimpaired collateral. Everything has been monetized and borrowed against down to eating, child care, taking photos, and talking to each other. That would work except that there’s no new collateral to expand into–someone’s not going to make their loan schedule if the economy (meaning financial numbers, debt) doesn’t grow.

But we’ve got worse than not growing, we’ve got outright shrinking, which would just be a thing except that the oil price sets the value of the oil patch, which sets the value of the collateral, which is the backing for the loans. And oil is an ENORMOUS multi-trillion$ industry. So what happens when you wipe out multi-trillions in collateral leveraged 30:1 when there’s no new collateral to be had? Leverage works both ways. Then the multi-trillion oil patch becomes a multi-$30-trillion dollar financial hole, too big to bail, too big to fail. It eats governments, and not just S.A., but Norway, U.K. and the U.S.

So what does that mean? Is it “deflation” exactly? It’s not a shortage of money. Maybe what we get is a shortage of faith that the money means something when the governments no longer do, are no longer in control? Fiat depends on faith, confidence. But it would seem “money”, “fiat” won’t lose confidence. More like faith in stocks and bonds fail first when you realize Amazon, Exxon, and Chicago aren’t going to pay you back. Ever. Faith in you and I fail, as you don’t know if you join the cooperation system with investments and loans, that you won’t lose even your ante. You’d rush to that “fiat” instead, wouldn’t you? And if the money is hoarded, not loaned to Exxon or Chicago (presumably for useful things) then velocity drops near zero. Capitol “D” Depression.

So it isn’t the oil price but the debt/leverage juicing the drop the way it juiced the rise.

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