Waging a turf war over oil during a pandemic threatening the health and livelihood of countless millions worldwide must rate as one of the more ruthless, not to mention reckless, episodes in modern history outside provoking armed conflict.
Waging a turf war over oil during a pandemic threatening the health and livelihood of countless millions worldwide must rate as one of the more ruthless, not to mention reckless, episodes in modern history outside provoking armed conflict. Just how reckless remains to be seen.
Universal alarm at the spread of the COVID-19 virus and the increasingly drastic measures to contain it being adopted by governments have overshadowed the dramatic geopolitical power play in progress between Russia, Saudi Arabia and by extension the US over oil supply and demand. The adverse effects could be felt long after the virus crisis has blown over.
Not that many people will notice, but the geoscience community looks set to be hit by another undeserved business setback totally beyond its control just when it was settling on a new, if much reduced, ‘normal’. The generally jaundiced view of the oil industry means little sympathy is likely forthcoming from ordinary folks. How ironic then that about the only upside of the pandemic is markedly cheaper prices at the gas station.
The likely impact of the COVID-19 outbreak on the price of crude was already clear earlier in the year when demand for oil from China dropped by 20% as a result of manufacturing shutdowns. As the virus showed up in other countries, the emerging major oversupply and hence downward pressure on price weighed heavily on OPEC+ nations at the fateful extraordinary meeting in Vienna on 6 March.
The expectation had been that the call from Saudi Arabia for more production cuts (1.5 million b/d) to maintain some price equilibrium would be reluctantly agreed by member states and most importantly by Russia. The country had been going along with the limits on supply since 2016, but something apparently snapped: Russia decided not to play and mayhem broke out.
At the time of writing Saudi Aramco is talking about flooding the market. It is increasing its previous production rate of some 9 million b/d to its 12 million b/d sustainable capacity or even more. UAE, the third largest OPEC producer, says it will follow suit by upping its output from to 3 to 4 million b/d. Not to be outdone Russia announced it would immediately add 200,000 b/d and possibly go up to 500,000 more than its previous max of around 12 million b/d. This could be bravado as its output is not considered as flexible as its Middle East rivals. Meanwhile US production in January crossed the 13 million b/d threshold, according to the Energy Information Administration.
Predictably the price of crude has dropped to the low-mid $30s per barrel for both Brent and WTI indexes. A stunned oil world is left wondering where this will end. The most popular interpretation is that we are witnessing a battle for market share between Russia and Saudi Arabia. Both governments also taking aim at the unfettered production from the US. Thanks to shale, this has grown by 4 million b/d in recent years and turned the US into a net exporter while OPEC+ countries have held back.
It looks like the damn of resentment at the US finally burst. Even so the Saudi reaction is a little surprising given that the opening of the oil spigot risks souring relations with the US, its strongest ally and supplier of much of its military arsenal. However, Saudi Arabia was clearly anxious to protect its share of oil supply to key markets like China, the world largest importer. In 2016 Russia for the first time overtook Saudi Arabia as the main oil supplier to China. One weird twist in the plot is that China’s economic recovery in the wake of the virus will be helped significantly by cheaper oil from two of its main suppliers.
There’s got to be more to the Saudi side of the story, and the explanation seems to lie in the seemingly mercurial Crown Prince Mohammed bin Salman (MBS). Portrayed as a modernizer anxious to diversify his country’s dependence on oil with the Saudi Vision 2030 programme, he has turned out to have a thirst for absolute power recently expressed in another confinement of potential rivals for the throne. He may also be emboldened by President Trump’s vulnerability in an election year to any damage to the US shale industry. The same leverage would also explain the Saudi’s obdurate lack of response to US diplomacy on ending the hostilities in Yemen.
What is less clear is how long Saudi Arabia can continue to sustain production policy. It is said that the country needs the oil price to be around $80 per barrel to meet the requirements of its social and economic policy. The collateral damage to many OPEC member nations with more fragile economies reliant on oil revenues may also eventually weigh on MBS and his advisers.
In the wake of the split with Saudi Arabia, the Russian news source Pravda claimed that the country needed only $42.4 per barrel to balance its budget. True or not, Russia appears to be indicating that it does not intend to back down. That said, authorities have pointed out that the issue will be on the agenda at the next OPEC meeting in June leaving the door ajar to some compromise. There is no doubt that the Russian bear is sore at the US for a number of reasons, and President Putin has spotted an opportunity to hit back where it hurts.
Vanity may have been wounded some time ago when the Americans became the largest oil producer in the world. Igor Sechin, boss of oil giant Rosneft and an ally of Putin since their intelligence days, has consistently opposed the production control deal with OPEC+ and how it allowed the US to steal market share with more expensively produced oil. From a Russian perspective, US and European sanctions following its Crimea incursion may have been the cost of doing business, so to speak. Those imposed by the US on dealings with Venezuela and Iran are more easily interpreted as measures to reduce competition for its oil output at the expense of Russia among others. The US intervention to disrupt building of the Nord Stream-2 project was aimed directly at Putin’s Russia.
It’s not too Machiavellian to believe that the Putin government had clocked that already slowing global demand for oil was putting pressure on the profitability of US shale operations. Regarded as an underperforming asset, shale has long lost favour with Wall Street and many companies have run up borrowings with no clear horizon as to when these will be paid off. Provoking an oil price collapse offered the chance to inflict some serious damage.
The threat to the Trump administration in an election year is obvious. That is an eventuality that the Russians apparently can accept even though they covertly supported Trump for president in 2016 (the strategy this time seems bent on cheering for the candidacy of Bernie Sanders to sow as much confusion as possible). A plausible theory is that Russia’s goal right now is to shake US confidence in its energy security. Russians and others believe US self-sufficiency has emboldened US foreign policy compared, for example, with the Obama era.
Regardless of the motives of the key players in this drama, the outcome is extremely unsettling for those involved in the oil supply chain. How COVID-19 will affect the overall world economy is anyone’s guess. The same applies to the outlook for the oil industry. Key factors going forward will be the duration of the virus before some semblance of normality is restored, the wait time until some form of resolution to the oil price stand-off is reached and crucially the reaction of oil companies around the world to this unpredicted disruption to their E&P strategies. Looking to the International Energy Agency and other forecasters for guidance is meaningless in such a fluid situation.
We can be sure that the seismic industry will take a hit as oil companies reassess their investment plans in the light of the lower price of oil and uncertain demand. The only positive may be that drastic consolidation of the marine seismic market since 2013-14 has left a more resilient core of contractors and more ‘asset light’ multi-client customers with no vessels of their own.
At the beginning of January the leading seismic players were sounding cautiously optimistic. Shearwater GeoServices, the largest fleet operator by far, was enjoying a sevenfold increase in 2020 backlog to 65 vessel-months compared with 9 vessel-months at the same time a year ago. Polarcus posted a loss of $19 million for the last quarter of 2019 but noted a backlog of $240 million, its highest since 2014. PGS, which in January announced a refinancing move via a private placement of $95 million, was in December eyeing a backlog of $322 million (including multi-client) compared with $163 million in December 2018. CGG, now exited from the marine and land acquisition business, had a backlog in February of $537 million, up 34% from the previous year.
A Rystad Energy impact analysis last month suggested that the service sector that would feel the pain the most in absolute terms in 2020 was likely be the well stimulation market. This is estimated to come down by $25 billion. Fracking and proppant companies are also expected to have a hard time securing any new work.
If prices stay low at $30 in both 2020 and 2021 due to a volume war, which fortunately Rystad Energy finds less likely, then stimulation services and seismic companies could be in the frame for two years of annual market declines of 40% and 30% respectively. That does not bear thinking about.
‘The adverse effects could be felt long after the virus crisis has blown over’
‘A plausible theory is that Russia’s goal right now is to shake US confidence in its energy security.’
