A month or so ago U.S. President Donald Trump extracted a promise from Saudi Arabia that it would pump more oil to mitigate the risk of oil price spikes resulting from the end to waivers on Iranian oil exports. There was scepticism at the time about the Saudi willingness and/or ability to make good on this promise, but last week oil entered official bear market territory, defined by a drop of 20% or more in prices from the most recent high. According to historical market data, the average bear market for crude oil lasts 60 trading days, so the question now is: with OPEC and non-OPEC oil producers (NOPEC) meetings on the 25th and 26th of June, can Trump still trust the Saudis to do their part in keeping prices on the low side? In fact, as OilPrice.com reveals, Trump cannot lose, whether the Saudis keep their promise or not.
From the U.S. perspective, there are two key reasons defining this ‘no lose’ position: the first being economic, the second geopolitical. The economic reason is that, despite the U.S. economy continuing to perform robustly over the first quarter of this year - better-than-consensus economic growth of 3.2% - many feel that a recession may be around the corner. In this context has been cited the fall in the IHS Markit U.S. Manufacturing Purchasing Managers’ Index (PMI) for May by more than two points to 50.5 (the lowest level since September 2009) and the seasonally-adjusted U.S. Retail Sales figure dropping (by 0.2%) in April from the previous month for the second time in three months. Beneath this is the economic uncertainty attached to the U.S.’s ongoing trade war with China, which equally negatively affects the perennially-dubious growth figures that flow out of Beijing.
A key link between the U.S.’s ongoing economic recovery and the oil price is the price of gasoline, with the rule of thumb being that every US$10 per barrel change in the price of crude oil results in a US$0.25 change in the price of a gallon of gasoline. In turn, the American Automobile Association in Washington has stated that for every US$0.01 that the average price of gasoline falls, more than US$1 billion per year in additional consumer spending is freed up.
The point was underlined by Bob McNally, the former energy adviser to the former President George W. Bush that: “Few things terrify an American president more than a spike in fuel prices.” This is the principal reason why whenever there is a spike in the WTI oil price the ‘Trump price cap comment’ kicks in, as evidenced most recently when WTI oil spiked through the key US$65.00 pb technical resistance level, when he Tweeted: “Very important that OPEC increase the flow of Oil [sic]. World Markets are fragile, price of Oil getting too high [sic]. Thank you!”
The geopolitical reason relates to the various breakeven prices in the global crude oil market of its major producers. By exploiting the differences in the differing points of relative economic pain, the U.S. is seeking to drive a wedge between the recently burgeoning relationship between the de facto leader of OPEC, Saudi Arabia, and the de facto leader of NOPEC, Russia. Past that, the U.S. is perfectly happy as well to break up OPEC once and for all.
To begin with, Saudi Arabia needs an oil price above US$84 per barrel of Brent to balance its budget and it needs to move into sustained surplus territory in order to redress the disastrous effects of its attempt from 2014 to 2016 to destroy the then-nascent U.S. shale oil industry. Recently, and partly a result of the success of the current OPEC+ plan, Saudi Arabia posted a budget surplus of SAR27.8 billion (US$7.4 billion) for the first quarter of this year - the first such surplus since Saudi Arabia instigated its anti-shale strategy. In 2015 it recorded a near-catastrophic budget deficit of 14.8% of GDP, then 12.8% of GDP in 2016, then a slight improvement to a deficit of 8.9% of GDP in 2017, before it worsened again last year, with a deficit of 9.2% of GDP.
So bad was Saudi Arabia’s financial situation as a result of the half-baked shale destruction strategy that the Kingdom was forced to spend around US$250 billion of its precious foreign exchange reserves in just 2014 and 2015 that even senior Saudis said are lost forever. It also led to the unheard-of criticism by a senior Saudi – the country’s then-deputy economic minister, Mohamed Al Tuwaijri, in October 2016 - that: “If we [Saudi Arabia] don’t take any reform measures, and if the global economy stays the same, then we’re doomed to bankruptcy in three to four years.” As it is, by the Saudi’s own estimation, despite the first quarter blip up, it will not make another annual surplus until 2023 at the earliest.
For Russia there has been a shift in recent weeks on extending its agreement to cut its oil production in tandem with OPEC. Russia’s Finance Minister, Anton Siluanov, recently said: “There is a dilemma: what should we do with OPEC - should we lose the market, which is being occupied by the Americans, or quit the deal?” This came on the back of similar expressions by Russian oil giant Rosneft that object to losing market share to the U.S. by dint of the production cuts.
Separately, Christopher Granville, managing director of global political research for TS Lombard, in London, told OilPrice.com, Russia’s President, Vladimir Putin, reminded his audience at a Moscow investment conference that Russia’s fiscal policy is framed around a US$40 per barrel price, based on the estimated US$35-45 per barrel marginal cost of producing shale oil in the U.S.
Indeed, Andrew Dittmar, a senior Drillinginfo oil and gas mergers and acquisitions analyst, in Austin, Texas, told OilPrice.com, there has been a lot of talk recently about a slowing in the U.S. shale sector but that is just part of the natural business cycle for any business. “Initially, a business puts all of its capital into exploration and production and then it tweaks the capital expenditure to reward investors in the business from free cash flow in the form of dividends or share buybacks,” he said. “Shale is still working to convince Wall Street that it can make the shift to shareholder returns but within the industry it has won over smart, long-term oil giants such as Chevron and Exxon in a major endorsement of a bright future,” he added. According to recent projections from the US Energy Information Administration (EIA), Permian production could double from its current level of nearly 4 million bpd (mbpd) to at least 8 mbpd within the next four years. Shale will also be instrumental in pushing up U.S. crude oil production to an average 12.45 mbpd this year and to 13.38 mbpd next year, according to the EIA.
Effectively this means that the U.S. cannot lose the current manoeuvre from its global oil playbook: either Saudi continues to toe the line on prices, in which case the U.S. benefits economically immediately, or it does not and the U.S. moves to destroy the OPEC cartel quite quickly. The mechanism for this – the ‘No Oil Producing and Exporting Cartels Act’ (NOPEC) bill - is already in place and the only thing standing in the way of the bill going through is the veto of President Trump, being broadly supported in both the U.S. House of Representatives and Senate. The bill would allow individual OPEC member states or the group as a whole to be sued for cartel-like activity under existing U.S. antitrust legislation.
If Saudi continues to toe the line on averting oil supply tightness and corollary price spikes, then the President is likely to continue to veto it, according to U.S. political sources. If it did not, then not only would it face the prospect of anti-trust OPEC-related lawsuits but also would likely see a pick-up in the tempo of the civil lawsuits currently ranged against it for its alleged role in the ‘9/11’ terrorist attacks on the U.S. This follows the overriding on 28 September 2017 by the U.S. Congress of former President Barack Obama’s veto of the Justice Against Sponsors of Terrorism Act (JASTA), making it possible for victims’ families to sue the government of Saudi Arabia.
Within a short space of time, there were seven major lawsuits in federal courts alleging Saudi government support and funding for the ‘9/11’ terrorist attack, based on the fact that 15 of the 19 hijackers were Saudi nationals. The extremely poor reputation of Saudi Arabia that was stoked by this – even before the alleged state-sponsored murder of journalist Jamal Khashoggi - is believed to be a key reason why Saudi did not go ahead with retaining the New York Stock Exchange as a key overseas listing destination for the Aramco IPO when it was first mooted. The lawsuits would open up Saudi’s US$1 trillion or so of assets in the U.S. to be seized in restitution.
By Simon Watkins for Oilprice.com
