David Fuller and Eoin Treacy's Comment of the Day
Category - Energy

    Musings From the Oil Patch January 13th 2015

    Thanks to a subscriber for this edition of Allen Brooks’ ever interesting report. It contains a number of titbits, not least on the outlook for the natural gas market and energy stocks. Here is a section on the Saudi succession: 

    Prince Muqrin is the third youngest son of King Abdulaziz. He is a pilot having been trained at a Royal Air Force college in Britain. He is a former chief of the General Intelligence Directorate and served as a governor of several provinces in the country including the one containing the holy city of Medina. While Prince Muqrin is thought to be a steady hand and close to the king, probably because he is strongly anti-Iranian, the fact that his mother was from Yemen and thought to have been a concubine, introduces a new dynamic into the succession thinking. At the current time, Islamist revolutionaries have seized control of Yemen and are actively fighting Saudi Arabia. We wrote about that development in the context of how Saudi Arabia is being surrounded by Islamist terrorists, which was manifest in the overthrow of the Kingdom’s political supporters in Yemen. The Saudi government admits it ignored Yemen in recent years, which contributed to the power shift and the loss of its allies there. 

    At the time Prince Muqrin was elevated to his position as second in line to the throne in 2013, we and others commented that the choice indicated King Abdullah’s focus was on maintaining the historical consistency in the selection process rather than introducing politics into the selection. It also suggested that the King was entrusting Prince Muqrin with the future responsibility for selecting the first Saudi Arabian ruler from the family’s third generation, which will mark a significant event in the history of the country. 

    The current fighting between Saudi Arabia and Yemen could present a succession issue within the Allegiance Council as family lines (loyalty) are considered very important in the Islamic world. Is it possible that Prince Mishal, as head of the Allegiance Council, might exercise power to alter the current royal succession line, and not just in dealing with the elevation of Prince Salman? Would he welcome his younger brother as King, or would he rather see the leader come from the next generation?

    We have read that Prince Muqrin is not motivated by wealth and because of his strong anti-Iranian views may be more willing to use Saudi Arabia’s oil policy as a weapon against its neighbor. Does that mean he would be more willing to endure low oil prices for longer to ensure that the Kingdom’s Islamist enemies’ economies might be truly broken – possibly even leading to the overthrow of their governments? What about social unrest in Saudi in response to reduced government income? If low prices hurt Russia, would that be a problem? What would it mean for Saudi Arabia’s relations with the U.S.? We guess the Obama administration would be happy to have low oil prices for its remaining time in office as it should provide a powerful stimulus for economic growth. Low oil prices might also be welcomed by the presumed Democratic presidential nominee, Hillary Clinton. It would certainly set back the energy self-sufficiency arguments made by the oil and gas industry and many Republican politicians, including some vying for their party’s presidential nomination, and it would hurt the economies of Texas, Oklahoma and North Dakota, among the handful of leading energy state economies, all states dominated by Republican politicians. 

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    Oil Market Report

    Thanks to a subscriber for this edition of DNB’s topical report. Here is a section: 

    We are directionally bullish to prices, but are revising down our average price forecast for

    2015 due to a lower starting point than anticipated in early December
    2015 revised down from 70 $/b to 65 $/b - could see prices even well into the 40¡¦s in 1H-2015 (not our base case however), but we expect a sharp price recovery
    2020 revised down from 95 $/b to 90 $/b as we expect deflationary pressure in the oil market as global E&P CAPEX is cut drastically and hence create slack in the service industry

    The market changed after the OPEC meeting
    After the OPEC meeting in November the market will be left to itself until the next OPEC meeting scheduled for June
    Prices will have to be low enough to achieve a new equilibrium between supply and demand but the price effect on fundamentals will be somewhat lagged
    How far down prices need to decrease is impossible to calculate as the market could easily overshoot to the downside during the adjustment process, but we believe that current low prices are not sustainable for the global oil industry

    1H-2015 looks over supplied even with higher demand and lower supply
    The market looks to be over supplied in 1H-2015 even after assuming that global non-OPEC production will decrease sequentially through the year and at the same time assuming much stronger demand growth in 2015 than what we have seen in 2014
    We expect that by 2H-2015 US shale production will start falling
    Our base case is that by the second half of 2015 the worst part of the adjustment process is over and prices will improve

     

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    Email of the day on generation IV nuclear reactors

    Here are some exciting news on collaboration between a US nuclear lab and privately held Terrestrial Energy, which seems to have the most advanced molten salt nuclear reactor concept available. This is encouraging news for those of us eagerly awaiting commercialization of new nuclear!

    Fyi and disclosure I am invested in Terrestrial Energy.

     

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    Bank of America Sees Norilsk as 2015 Standout: Russia Overnight

    This article by Halia Pavliva and Elena Popina for Bloomberg may be of interest to subscribers. Here is a section:

    The weaker ruble has driven inflation to the highest in more than five years while at the same time helping some commodity exporters that make sales abroad while covering their costs in the local currency. Nickel prices may rise 18 percent on average this year, according to Bloomberg Intelligence.

    Norilsk pays half its earnings before interest, taxes, depreciation and amortization as dividend, plus a special payout for 2015, according to Bank of America’s research report dated Jan. 5. Analysts also cited its exposure to nickel and palladium as well as an “attractive valuation” as reasons they like the stock. The London-traded shares trade at 5.5 times projected 12- month earnings, less than half the average of 16 global peers, data compiled by Bloomberg show.

    “Investors are focusing on non state-run companies that benefit from a weaker ruble, demonstrate strong cash flow and pay dividends,” Slava Smolyaninov, the chief strategist at UralSib Financial Corp. in Moscow, said by phone Monday. “The idea is that they can avoid the sanctions risk that way.”

     

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    Email of the day on gold, oil and shorting opportunities

    I'm finding the current moves in the dollar versus gold to be fascinating. Usually, if the dollar is going up, gold goes down in dollar terms (almost as if gold is a currency, hmm). Right now, both are going up, which of course means gold is really going up in non-USD currencies... suggesting that demand is quite strong.

    I'm short again, market-wise... shorted QQQ this morning... so many of the big stocks have made lower highs and lower lows (AAPL, CAT....) and others, (F, SBUX, DE) have 1 or the other. The QQQ now has both. Even the transports (IYT) look toppy to me. Of course the price action will tell...

    Lol, this morning oil had a 5 hour rally, which the bobbing heads on TV claim is a bottom... of course it's dropped 1.60 in the past hour or so. Reducing drilling plans for next year does not shut down the rigs currently completing wells (rig count is still not dropping - it will, but these things take a lot of time). Short term, everything still points to increasing supply in the next few months. 

    As always, your comments would be greatly appreciated :)
    Hope all is well...

     

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    Commodities Outlook 2015

    Thanks to a subscriber for this report dated December 15th from Deutsche Bank which may be of interest. Here is a section: 

    The fundamentals of copper do not mirror that of oil. In copper, there is no technological breakthrough which has opened up vast new resources, therefore copper should not suffer the same fall in pricing as that of oil. The fallout from oil has however impacted the overall sentiment towards commodities. However, copper remains a well-supplied market, and a lower oil price in combination with weaker producer currencies will lower the marginal cost support level, which we now estimate at USD5,800/t.

    We continue to forecast a surplus market in copper for 2015E and 2016E, which in our view will see prices grind lower. However, we have cut the magnitude of the surpluses in both 2014 and 2015E by 200kt over the course of the year. The big increase in mined supply growth that we had previously forecast has been eroded by the latest round of downgrades to company guidance. Although we forecasts a more substantial surplus in 2016, we think risks are skewed to the downside, given the poor industry track record in delivering growth.

     

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    Top Bond Managers Plan for 2015 Energy Rebound

    This article by Matt Robinson for Bloomberg may be of interest to subscribers. Here is a section: 

    Ken Leech, chief investment officer at Western Asset Management Co., has been adding energy assets slowly, including debt from California Resources Corp., an exploration and production company. The Western Asset Core Plus Bond fund gained 3.02 percent after the risk adjustment.

    Leech said he sees value in CMBS, residential-mortgage backed securities and U.S. investment-grade corporate bonds. The extra yield investors demand to hold company debt rather government notes rose last year for the first time since 2011 on slower global growth, which reduced returns. That trend probably will reverse this year as the economy accelerates.

     

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    Musings From the Oil Patch December 30th 2014

    Thanks to a subscriber for this edition of Allen Brooks’ ever interesting report for PPHB. Here is a section

    The EIA later makes the following point about its scenario in which there is even greater closures of coal-fired power plants, which was authored prior to the EPA’s introduction of its new carbon emission restriction plans for existing power plants. “If additional existing coal-fired and nuclear generating capacity were retired, natural gas-fired generation could grow more quickly to fill the void. In recent years, the number of coal and nuclear plant retirements has increased, in part due to a decline in profitability as low natural gas prices have influenced the relative economics of those facilities. The Accelerated Coal Retirements case assumes that both coal prices and coal plant operating costs are higher than in the Reference case, leading to additional coal plant retirements. In this case, natural gas-fired generation overtakes coal-fired generation in 2019, and by 2040 the natural gas share of total generation reaches 43%. In the Accelerated Coal and Nuclear Retirements case, the natural gas share of total generation in 2040 grows to 47%.”

    What if there isn’t sufficient natural gas available, at least at reasonable costs? That would create a serious economic hardship on Americans and the American economy. We suspect one immediate remedy would be to ban the export of all LNG from this country. If possible, there could also be some restrictions imposed on gas exports to Canada and Mexico. If the gas shortage proved even more severe, we would probably begin restarting coal-fired power plants, much like the UK is doing this winter at a significant cost merely to ensure that the UK has sufficient power generating capacity available. What would that cost our economy both financially and in greater carbon emissions? Maybe by the time the gas shortages become severe, we will have addressed the storage challenge for intermittent renewable power sources. Building new nuclear power plants might become an option, but we know that they take years to be constructed so they are not a short-term solution. In either case, the EPA is counting on the EIA’s abundant gas supply scenario as it moves forward with power plant shutdowns.

    While this debate over gas production forecasts may seem like a tempest in a teapot, its significance should not be understated. The impact on the future economic strength of the United States if insufficient gas resources are available cannot be underestimated. Not only would we have misallocated energy capital for decades, but we would have significantly altered the health of our public utility industry, possibly leaving it so weak it could not meet the needs of its customers, forcing the federal and state governments to have to bail out the industry. Maybe we need a “time out” before we rush to implement the EPA’s plan to restrict the carbon emissions for power plants to the degree that we force the retirement of much of our coal-fired generation capacity. Rest assured that the gas production forecast debate, while seemingly academic at the moment, will become a much more serious and a more mainstream issue in the coming years.

     

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