A new recession is looming
Jan 22, 2019 11:25 am
To balance the market, global economic powers must implement expansive policies and producer countries must implement the production cuts agreement as soon as possible
During the last month of 2018, oil prices strongly decreased at around $8/b in the wake of the global financial turmoil. In fact, in 2018, the S&P Goldman Sachs energy commodity index decreased by 21%.
In December, Brent North Sea oil quality started the negotiations at $61.91/b and closed at $54.15/b, while West Texas Intermediate grade opened the quotations at $53.35/b, closing at $45.67/b. After the Federal Reserve announced the fourth hike of its interest rates in 2018, both the European and Asian benchmark and the American grade reached their minimum on December 24th. Especially, Brent lowered at $50.68/b – the lowest level since August 18th 2017 – whereas WTI reduced at $42.38/b – the minimum price since August 10th 2016.
At the time of writing (on January 15th), Brent and WTI were respectively quoting at $59.44/b and at $50.98/b as trade talks between the United States of America and China in addition to the concrete possibility that OPEC+ will shrink its production fuel optimism.
During the second half of December, barrel prices diminished due to the following factors:
1. Thanks to the fracking technique, the United States extracted 11,700,000 b/d that is a record high. At the same time, the Russian Federation produced 11,420,000 b/d;
2. According to the International Energy Agency, OCSE commercial inventories increased by 5,700,000 barrels to 2,872,000,000 barrels in October, moving slightly above the last five year average level;
3. On December 19th, despite warnings from President Donald Trump who was concerned about a U.S. financial drop, FED rose the range of the overnight lending rate by 25 basis points from 2-2.25% to 2.25-2.50%. Especially, the effective risk of a financial bubble, in addition to continuing trade tensions between the United States of America and China, could lead to a weaker energy demand in 2019;
4. The role of finance. Some Hedge Funds have been increasing their bearish bets in particular, over the Brentbenchmark.
On December 7th, the so-called OPEC+ group headed by Saudi Arabia and the Russian Federation decided to cut their production by 1,200,000 b/d for a period of six months, starting from January 1st 2019. If producing countries want to reduce the volatility that characterized the oil market during the second half of 2018, they must implement the pool agreement as soon as possible. The first 2019 oil data, which indicated that Saudi Arabia cut its exports by approximately 500,000 b/d to 7,253,000 b/d in December, seemed to confirm this aim.
Latest data and estimates on oil & gas
According to the data provided by the Oil Market Report, published by the International Energy Agency on December 13th, global oil supply fell by 360,000 b/d in November (month-on-month) to 101,100,000 b/d due to the lower output in the North Sea, Canada and Russia. At the same time, OPEC crude oil production rose by 100,000 b/d to 33,030,000 b/d, because Saudi Arabia and the UAE reached record highs, more than offsetting a strong loss by Iran.
The forecasts of 2018 and 2019 oil demand growth are largely unchanged – respectively, at 1,300,000 b/d and at 1,400,000 b/d – in comparison with the previous report.
Based on the Drilling Productivity Report figures issued by the Energy Information Administration on December 17th, the American unconventional crude output is expected to increase by 134,000 b/d to 8,166,000 b/d in January 2019.
The U.S. crude production, after the former peak of 9,627,000 b/d gained in April 2015, decreased to its lowest of 8,428,000 b/d on July 1st 2016. It then started increasing to 11,700,000 b/d, which was reached on November 9th 2018 and maintained during the last part of the previous year (weekly forecasts, publication date, 7 days after).
Thanks to the statistics provided by Baker Hughes on January 4th 2019, the 1.075 current U.S. active rigs, of which 877 (81.6%) are oilrigs and 198 (18.4%) are gas rigs, were seven less than November 16th 2018. As it was anticipated in our previous report, U.S. frackers halted their drilling expansion after oil dipped below $55/b. According to Rystad Energy, shale activity began to slow even before the plunge in oil prices occurred in late 2018.
In an interview released to Bloomberg on December 17th 2018, Michael Loewen, commodity strategist at Scotiabank, said, “We’re probably going to see a supply slowdown in the US. I do think that producers will react”. In 2018, companies specialized in hydraulic fracturing lost 30% in the S&P 500 energy index. “The fracking boom has produced a lot of oil and gas, but not much profit”, stated Tom Sanzillo, Director of Finance at the Institute for Energy Economics and Financial Analysis.
In October, U.S. crude oil imports decreased to 7,312,000 b/d. They were 7,589,000 b/d in September, 8,000,000 b/d in August, 7,923,000 b/d in July, 8,480,000 b/d in June (monthly record high in 2018), 7,825,000 b/d in May, 8,244,000 b/d in April, 7,616,000 b/d in March, 7,493,000 b/d in February and 8,012,000 b/d in January. Currently, the 2018 U.S. crude oil imports average stands at 7,849,000 b/d. It was 7,969,000 b/d in 2017, slightly higher than the 7,850,000 b/d marked during 2016, which is on the rise if compared with the 7,344,000 b/d imported in 2014 and the 7,363,000 b/d in 2015.
Based on Chinese custom figures, China’s crude oil imports reached 10,430,000 b/d for the first time ever in November 2018, increasing by 8.5% in comparison with the same period of 2017 and overcoming the previous record of 9,610,000 b/d marked in October 2018.
Geopolitics of Oil & Gas
On January 7th 2019, Lawrence Summers, Harvard University economics professor and former U.S. Treasury Secretary during Bill Clinton’s Presidency, wrote an article entitled, We must prepare now for the likelihood of a recession, which was published by the Financial Times.
Given the thesis of the author that a new global recession is probable and imminent, what should energy producers do in the forthcoming future in order to stabilize oil market prices? Parallelaly, what should superpowers do for the sake of substaining the world energy demand?
In accordance with Bloomberg, the nominal value of the Group’s crude production, based on the average price of a basket of OPEC crudes, increased by 33% in 2018, to $826 billion, as a consequence of supply cuts. As Bloomberg correctly pointed out, taking into account that net revenues depend on barrel exports rather than the total output, the real ammount is certainly smaller. Quite probably, if the Organization will have the capacity of carrying on its current strategy during the first half of 2019, it will probably achieve its goal of stabilizing market prices. If not, it would also have the possibility to prolong the cuts in the second half of the current year. However, it shouln’t forgotten that the majority of the oil producers have a break-even price that is higher than the range of $55-65/b. At the moment, only the Russian Federation has its government budget set at around $40/b.
With regard to the issues discussed by the two superpowers in the course of the bilateral meeting held in Beijing from January 7th to January 9th, the impression is that China and the United States reached a general trade agreement, but problems have been still persisting such as its implementation.
In addition, Wall Street Italia highlighted that Chinese exports decreased by 4.4% in December 2018 instead of a forecast 5% increase, while imports diminished by 7.6% instead of an expected 4% rise. Despite the fact that China’s foreign trade rose by 9.7% year on year – exports surged by 7.1%, while imports grew by 12.9% according to the General Administration of Customs data released on January 14th 2019 – this December commercial warning clearly suggests that the world market is slowing down. In order to tackle this situation, Chinese government has been implementing a series of measures aiming at supporting consumptions, salaries, investments and cuttin taxes through the increasing of the deficit/GDP ratio.
Based on the U.S. Treasury Department statistics, the American Government debt topped $21.93 trillion – $16 trillion of which is owed by the public and $5.8 trillion by intragovernmental holdings – as of January 9th 2019. At the end of 2018, the U.S. deficit surge climbed to $1 trillion. On one hand, Jerome Powell, current Governor of the Federal Reserve, stated during his partecipation at The Economic Club of Washington “I’m very worried about it”, however on the other hand, Alan Greenspan, former FED chief, said that “Fiscal policy is a critical issue; monetary policy is not at this stage. At some points it’s critical but this is not one of them”. So, despite the current U.S. debt and deficit levels, Greenspan suggested that a more expansive fiscal policy will support the economic growth of its country.
“Even if my recession fears are excessive, a shift towards emphasising growth will contribute to bringing inflation up to target levels and can be reversed. If I am proven right, the costs of delay in the policy response could be catastrophic. It is the irony of our moment that prudence requires the rejection of austerity”, summed up Lawrence Summers.
To conclude, it is time to open a frank dialogue regarding, both the reform of the EU and the ECB institutional structures and the policies implemented until now. Time is running out!
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