Oil giants posturing

Since the collapse of the OPEC+ meetings and in the wake of seismic demand destruction from COVID-19, both Saudi Arabia and Russia have been in a battle of who will blink first with commitments to increase production in the hopes of forcing the other back to the table to recommence production cut discussions. However as of today, there has been no face saving solution for either to MBS or Putin to back down and even Trump's calls to OPEC/Russia to (ironically) help lift oil prices have been ignored.

Despite the strong stance and hard talk by MBS and Putin, neither Saudi or Russia have actually significantly ramped up oil production to date. State-controlled oil companies in the two countries have reportedly hesitated before ramping up production in a show of careful navigation to avoid sending the entire oil & gas industry into oblivion in the potential absence of a winner-takes-all outcome which is becoming more and more apparent.

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Saudi oil optics

The release of the March Official Selling Prices begins to illustrate Saudi Arabia's complex and calculated moves in the global oil markets.

After years of trying to figure out the market dynamics of the brave new world with US shale and testing market responses to various signals, it knows that cutting its own production is not the only thing that matters (not to mentioned damaging to its own market share).

In fact, targeting data points that are strongly followed by the markets is more important, even if the signals they give are only superficial.

In March, Saudi Arabia increased its Official Selling Prices, pricing out its usual Asian buyers despite a market that is awash with light crude. However this is important in paving the way for more visible Atlantic Basin crudes (North Sea and West African) to be cleared,

In the first quarter, EIA data also shows that Saudi Arabia exported no barrels to its Motiva refinery in Port Arthur, USA, helping to manage storage levels in the US Gulf Coast and Caribbean, data from which drive global price sentiment.

Over the same time period, Saudi domestic inventory levels appear to have been rising.

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Saudi Arabia announces upgrade to oil and gas reserve base

The Ministry of Energy, Industry and Mineral Resources of Saudi Arabia has announced an upward revision to the Kingdom's proven oil and gas reserves, following an independent certification of oil and gas reserves in Saudi Aramco's concession area conducted by leading consultants DeGolyer and MacNaughton (D&M).

The Kingdom previously announced that oil and gas reserves as of 31 December 2017 were 266.3 billion barrels of oil and 307.9 trillion standard cubic feet of gas respectively. Of these, the estimated proven oil and gas reserves in Saudi Aramco's concession area were 260.9 billion barrels of oil and 302.3 trillion standard cubic feet of gas. Following the certification, Saudi Aramco's concession area oil reserves at year-end 2017 would have been 2.2 billion barrels higher or 263.1 billion barrels of oil and 319.5 trillion standard cubic feet of gas.

In addition to Saudi Aramco concession area reserves, the Kingdom also owns half of the oil reserves in the Partitioned Zone jointly owned by Saudi Arabia and the State of Kuwait. The Kingdom's share of the Partitioned Zone oil reserves (onshore and offshore combined) is 5.4 billion barrels and the corresponding gas reserves is 5.6 TCF.

So, including the D&M revision of oil reserves in the Saudi Aramco's concession area, the Kingdom's total proven oil and gas reserves as of year-end 2017 would have been about 268.5 billion barrels of oil and 325.1 trillion standard cubic feet of gas, respectively.

The Minister of Energy, Industry, and Mineral Resources, His Excellency Khalid Al-Falih, noted that this also highlighted three other important realities:

• That these vast reserves are also among the lowest cost in the world, backed by world-leading economies of scale.
• That the carbon intensity of Saudi Arabia’s oil and corresponding gas flaring are among the very lowest in the world, and he called on the industry to use this metric alongside profitability.
• And that it was a tribute to the importance the Kingdom places on integrity, the discipline and world-leading excellence of Saudi Aramco's operations and employees.

'This certification underscores why every barrel we produce is the most profitable in the world, and why we believe Saudi Aramco is the world’s most valuable company and indeed the world's most important,' His Excellency said.

Background:

The results of the D&M's evaluation have conclusively proved the integrity, robustness, and accuracy of the Kingdom's – and in particular Saudi Aramco's - internally-conducted estimates of its hydrocarbon reserves.

The Kingdom's previous evaluations of its hydrocarbon reserves as of the end of 2017, including Saudi Arabia's share of the Partitioned Zone (PZ), were around 266.3 billion barrels of oil (Saudi Aramco 260.9 billion barrels and 5.4 billion barrels in the PZ), and around 307.9 trillion standard cubic feet of natural gas.

It is common industry practice to focus the reserves audit on the major reservoirs in a company's portfolio. Accordingly, D&M evaluated 54 major oil reservoirs operated by Saudi Aramco, out of 368 in Saudi Aramco’s portfolio. These 54 reservoirs alone make up approx. 80% of the Saudi Aramco's reserves in the concession area 260.9 billion barrels oil reserves estimate. D&M's certification confirms that, as of December 31, 2017, these 54 reservoirs contained 213.1 billion barrels of proved oil reserves – conventionally known as '1P' – assessed on a full reserve life basis. This compares to a figure of 210.9 billion barrels of oil for the same reservoirs as estimated internally by Saudi Aramco. D&M's oil reserves certification being 1.0% higher (+2.2 billion barrels) than Saudi Aramco's.

In terms of gas certification, the Ministry noted that D&M evaluated gas reserves in 77 major reservoirs operated by Saudi Aramco, that alone make up approximately 60% of the Kingdom's 302.3 trillion standard cubic feet (tscf) gas reserves estimate. D&M's certification confirms that, as of December 31, 2017, these 77 reservoirs contained 204.9 tscf of proven gas. This certification is 9.2% higher (+ 17.2 tscf) than Saudi Aramco's internal estimate for the same reservoirs, which proves that the Kingdom adopts highly cautious methods in evaluating its oil and gas reserves.

As indicated above, D&M’s evaluation was limited to 'booked' oil and gas resources in the Saudi Aramco's concession area and does not cover other available hydrocarbon resources in the Kingdom, such as the significant unconventional gas reserves recently discovered but not yet 'booked' by Saudi Aramco or the Kingdom. Nor did the D&M cover the Kingdom's share of the reserves in the Saudi–Kuwaiti Partitioned Zone, which has both an onshore and offshore component. The onshore part is estimated by Saudi Arabian Chevron at 2,923 million barrels, while its share of gas reserves in that area is estimated at 877 billion standard cubic feet. In addition, the Kingdom’s share of oil reserves in the Offshore Partitioned Zone is estimated by Aramco Gulf Operations Company at 2,476 million barrels, while its share of gas reserves in the same area is estimated at 4,749 billion standard cubic feet. So, the Kingdom’s share of the total oil and gas reserves in the Partitioned Zone, onshore and offshore combined, is roughly 5.4 billion barrels and 5.6 trillion cubic feet of gas.

This independent evaluation further underscores the Kingdom's strong position and reputation for reliable oil production and supply. It also represents a strong validation of both the robustness and accuracy of Saudi Aramco's internal estimation techniques and processes, and provides in-depth insight into the unique size of the oil and gas reserves in Saudi Arabia.

'This independent third-party certification is in line with the Kingdom's Vision 2030, which promotes transparency, accuracy, and quality of all kinds of critical data. This reflects the continued direction and support provided to the Saudi petroleum industry by the Custodian of the Two Holy Mosques, King Salman bin Abdulaziz Al Saud; and HRH Crown Prince Mohammad bin Salman bin Abdulaziz,' His Excellency said.

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Saudi and Russia dominate gossip columns in run up to June OPEC meeting

As we approach the June OPEC meeting, all eyes on Saudi Arabia and Russia for any clues on the direction they will go on 22nd June. With the sanctions on Iran and imminent collapse of Venezuela, Trump has asked the two power weights to step in to avoid oil prices going any higher. This in itself is ironic as the US has been trying to wean itself off imports and attain energy independence from OPEC, yet it is now openly asking Saudi Arabia to help.

In recent days, both Saudi Arabia and Russia have hinted at wanting to increase production by 300mbopd, although the details remain to be thrashed out- i.e. will it be these two countries shouldering the increase or will it be spread amongst the OPEC members. The path this will take and desire to increase production will be dictated by whether consensus can be reached next week.

On the one hand, keeping a lid of oil prices is important for OPEC to avoid a wave of US production coming onstream with producer hedging. On the other hand, a number of OPEC nations urgently require cash flow from higher oil prices to balance precarious budgets.

If consensus can be reached to increase production, the additional barrels can be met by Saudi Arabia and Russia making up the production but will likely be criticised by other OPEC members of using the opportunity to snatch market share. An alternative would be for the members’ quotas to be renegotiated although this will open up another can of worms. In the case of the latter, it is noted that not all members are in a position to raise production (e.g. Venezuela, Nigeria, Libya which are fraught with domestic difficulties). Finally, OPEC members have been in over compliance so there remains running room to utilise the existing quotas, although this will again be shouldered by Saudi Arabia and Russia.

In the medium and longer term, fundamentals point to a supply shortfall so gradually raising production now will keep prices under control although the path ahead will remain choppy.

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Saudi Arabia: Consolidating power and austerity tested

Earlier this week, Saudi Arabia announced two pieces of news that the oil markets will be keeping a close eye on. In this latest episode of palace intrigue, King Salman has taken further steps to consolidate power in the Salman branch of the royal family and reversed some of the austerity measures implemented in 2016, the latter signalling tears in the fabric of the social contract with the Saudi public.

King Salman’s sons, Abdulaziz bin Salman and Khaled bin Salman, will become Minister of State for Energy and Saudi Ambassador to the US respectively.

• Prince Abdulaziz has held a variety of senior positions in the oil ministry through the years and was a proponent of abandoning the market share strategy
• Prince Khaled has served as an advisor to the Saudi embassy in Washington – his placement will be to help strengthen ties between the US and Saudi, consistent with the messages since the Trump and Deputy Crown Prince meeting in March 2017

Prince Abdulaziz and Prince Khaled are half-brothers; Prince Khaled is a younger brother to the Deputy Crown Prince, Mohammed bin Salman.

The other key decision this week was the reversal of civil service salary and benefits cuts. The austerity measures have caused discontent with the public, of which c.70% work for the civil service, leading to cries demanding the reversal of salary cuts, reinstatement of benefits, scrapping the planned IPO of Saudi Aramco and a change of the ruling system from an absolute to a constitutional monarchy – the latter being a key concern and threat to the Salmans’ power. The reversal of the cuts were well received and although undermines the economic outlook of Saudi Arabia, is clearly much more desirable than public revolt.

The temporary austerity measures reduced the spending deficit from USD97 billion in 2015 to USD79 billion in 2016. The target for 2017 was set at an ambitious USD53 billion, but this now looks unachievable with the announced reversals. The reversals place the Deputy Crown Prince in an awkward position within the family’s diverging aspirations for the Kingdom with the potential undermining of his Vision 2030 which aimed to scale back the public sector wage bill and civil service, with diversification of the economy. The durability and longevity of other Saudi measures and now being put to the test.

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Saudi Arabia: fissures within

King Salman

The lack of agreement between members at the 168^th OPEC meeting on 4^th December means that Saudi Arabia can continue to pursue its strategy of maintaining market share over price for a little longer. In fact, recent production figures show that Saudi Arabia is pumping record amounts of crude this year, a sign of its commitment to this strategy.

However, with oil prices reaching recent lows of c.USD40/bbl and little sign of a recovery anytime soon, questions are being raised on whether this was the right strategy to pursue. The country’s 2015 budget was based on an oil price of USD90/bbl, but with the ongoing war in Yemen and King Salman handing out money to stave off public discontent, the fiscal breakeven oil price is now approaching USD110/bbl, almost triple of where Brent is currently hovering.

Members of the royal family have begun questioning King Salman and his son, Prince Mohammad bin Salman’s, ability to run the kingdom, culminating with letters written by an anonymous Saudi prince calling for a coup against the King – these letters were published in The Guardian newspaper in September 2015. The letters assert that King Salman and his son are pursuing dangerous policies that will lead to the kingdom’s ruin. Apparently the call for the change in leadership has widespread support from within the royal family and wider Saudi society, although few will publicly acknowledge this given the history of harsh crackdowns on any dissenters.

Aside from scepticism over oil policy, the Saudi intervention in the Yemeni conflict has also become a serious source of unease inside and outside the palace walls. Prince Mohammed bin Salman, who is in his early 30s, and has been educated domestically with limited military training is viewed as lacking the necessary experience in running the country’s defences. His unofficial nickname, “Reckless”, reflects an increasingly held view that he rushed into Yemen without a well thought-out strategy and the war is now consuming a significant part of Saudi’s budget with no end to the conflict in sight.

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Saudi Arabia - joining the dots: Part 6 - Emergency meeting

Saudi Arabia - joining the dots is a series of blog entries exploring Saudi Arabia's role in the oil markets with a brief look at the history of the royal family and politics that dictate and influence the Kingdom's oil policy.

Part 6 - Emergency meeting

OPEC's traditional strategy has been to cut production to maintain prices, but recent behaviour of the cartel or at least that of its largest member (and swing producer) shows a marked deviation from the strategy.

Saudi Arabia has been a key driver of the protect market share strategy, convincing other OPEC members that a period of low prices would cut US supply and therefore restore the supply-demand dynamics of the market. However, Al-Naimi's stance of keeping to this strategy "even if prices hit USD20 a barrel" (December 2014) has scared the other OPEC members, who do not have the deep pockets to keep their countries afloat.

Nine months into the oil price decline, many of the members are feeling the pressure with fiscal reserves running low. Saudi Arabia and its Gulf neighbours are the exception with their vast monetary reserves, but with large social spending programmes, these countries are now running deficits and chipping away at those reserves.

Discussions between the various OPEC members on the next course of action are ongoing with the next meeting scheduled for June 2015. However, in February 2015, Ms Alison-Madueke, president of OPEC said in an interview with the FT that if the oil price "slips any further, it is highly likely that I will have to call an extraordinary meeting of OPEC in the next six weeks or so". Extraordinary meetings have to be agreed upon by all 12 members.

Ms Alison-Madueke also admitted that "When you cede market share continuously, you drive yourself into oblivion...many OPEC members are going to suffer greatly from a a drastic fall in the price". There-in lies the dilemma - the OPEC members' problem lies in the deeply rooted dependence on oil revenues and large social programmes; cutting production risks further loss of oil revenue, while maintaining production keeps the oil price low...and no-one wants to be first mover. Huge structural reforms are needed but these will not be easy, especially in the aftermath of the Arab Spring and will likely take many decades to achieve.

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Saudi Arabia - joining the dots: Part 5 - Breakeven, OPEC's downfall

Saudi Arabia - joining the dots is a series of blog entries exploring Saudi Arabia's role in the oil markets with a brief look at the history of the royal family and politics that dictate and influence the Kingdom's oil policy.

Part 5 - Breakeven, OPEC's downfall

The above chart, taken from the Wall Street Journal, paints a grim picture.  It shows the oil price required by the various OPEC members to meet their budgets. As of 10 October 2014, Brent was at USD90/bbl; today it is at USD62/bbl. All the OPEC countries are in the red, and some are in a worse position to handle this low oil price environment than others.

Saudi Arabia, for now, will be able to survive. Others are crying in pain - Venezuela, Iran and as of late, Nigeria as it enters into a period of elections with campaigns funded by oil money and the corrupt paid off with oil money. As an interesting aside, Iran (a Shiite power) blames its neighbour and rival, the Sunni Kingdom of Saudi Arabia for using the oil prices as a political weapon and keeping prices low by refusing to cut production.

After years of high oil prices, Saudi Arabia has managed to amass over USD750bn in reserves. However, it also has a large social programme and a high youth unemployment rate; keeping its citizens content and off the street has been in the aftermath of the Arab Spring. Following the ousting of Egypt's Hosni Mubarak, King Abdullah implemented $130bn in new social programmes including unemployment payments, housing and scholarships for Saudi's to study abroad. 

Most worryingly, Saudi Arabia tends to outspend its budget and the Kingdom will need to run a deficit in a USD50-60/bbl oil price environment.

Saudi Arabia has issued a record budget of USD229bn for 2015, with a 5% deficit forecast. The split is as follows: 25% education, 19% health and social, 7% transport and infrastructure, 7% water and agriculture, 5% municipal and 36% "other priorities". Other priorities is largely composed of military spend, which is of increasing importance with the ongoing ISIS conflict in the region.

Al-Naimi's policy has been to defend market share, to the annoyance of King Salman, at the expense of allowing oil prices to fall. However, with oil prices at their current low levels, Saudi Arabia is chipping away at its massive monetary reserves with an over-inflated and hard to cut back spending programme. This policy (or Al-Naimi) may need to be changed in the absence of an oil price rebound in 2015.

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Saudi Arabia - joining the dots: Part 4 - The price wars, defending market share

Saudi Arabia - joining the dots is a series of blog entries exploring Saudi Arabia's role in the oil markets with a brief look at the history of the royal family and politics that dictate and influence the Kingdom's oil policy.

Part 4 - The price wars, defending market share

The sudden fall in the oil price in the middle of 2014 and the subsequent lack of response by OPEC is a stark reminder of its members' policy of defending market share, although the cartel may openly deny it .

Forgotten in recent years and beyond recollection for those who are still young, the 1980s was the last time Saudi Arabia demonstrated its significant power in the oil markets in its efforts to defend market share. In hindsight, one questions whether Saudi emerged victorious from that war and whether it was worth fighting.

In the early 1980s, oil prices fell to record lows after hitting highs in the 1970s. Consumers (namely the US) vowed to reduce reliance of on oil given the high prices and actively implemented policy to switch to substitute energy sources, such as coal for power generation. 

In an effort to shore up oil prices caused by falling demand, Saudi urged its fellow OPEC members to cut production. Saudi cut its own production by c.80% to 3.5mmbbl/d, but many of the other members refused to follow suit. Saudi was furious as by taking action, it had lost out on revenue and market share. In retaliation to the non-compliers, Saudi ramped up production to full capacity and flooded the market with crude. The excess production caused oil prices to slump to c.USD7/bbl and it was another 20 years, before oil price began to recover to pre 1980 levels.

That part of history continues to haunt Saudi today and one can see its remnants in Saudi's stern policy of maintaining production, communicated to the world in that all important OPEC meeting on 27 November 2014.

Luckily for Saudi, and other OPEC members, its low cost of production (<USD20/bbl) means that production remains profitable even at USD50/bbl oil price. The current price war will see much production around the world being choked with high cost North American unconventionals and mature North Sea production being hurt.

Whether Saudi still holds (or wishes to hold) its nominated role of swing producer is a key question to ask. For now, it still has the ability to retrench production, but its low cost production base will mean it can withstand lower oil prices for longer whereas its non-OPEC counterparts will fall over one-by-one unless prices rebound in the near future.

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Saudi Arabia - joining the dots: Part 3 - The reshuffling has begun

Saudi Arabia - joining the dots is a series of blog entries exploring Saudi Arabia's role in the oil markets with a brief look at the history of the royal family and politics that dictate and influence the Kingdom's oil policy.

Part 3 - The reshuffling has begun

Ali al-Niami's job remains safe...for now

In a further move which signals King Salman's tightening grip over the Kingdom's affairs since coming to power,  Salman promoted his son Prince Abdulaziz bin Salman from the position of Assistant Minister for Petroleum Affairs to Deputy Oil Minister at the end of January 2015.

The move, although unexpected, should not be seen as a surprise given Salman's desire to place members of the Sadairi branch of the family into key positions.

Ali al-Niami's post as Oil Minister remains safe for now but his power in dictating Saudi oil policy, arguably the one of the most important roles in the Kingdom, is quickly diminishing. The re-shuffling is also symbolically important as it could be the first in a number of moves by Salman to sideline al-Niami and his policy of defending Saudi market share and letting oil prices fall to USD50/bbl - a policy which does not sit well with factions within the Saudi governing circle.

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Saudi Arabia - joining the dots: Part 2 - Scandal

Saudi Arabia - joining the dots is a series of blog entries exploring Saudi Arabia's role in the oil markets with a brief look at the history of the royal family and politics that dictate and influence the Kingdom's oil policy.

Part 2 - Scandal



In 2006, the then King Abdullah created the Allegiance Council in 2006 to help select future rulers. In March 2014, Prince Muqrin was appointed by Abdullah to be the next in line after Salman, placing Muqrin to be the third in line to the throne at the time. Prince Muqrin has now been elevated to second in line following the death of Abdullah. 

However, the appointment of Muqrin was not an unanimous decision by the Allegiance Council. It was in fact, somewhat of a surprise given Muqrin's mother is of Yemeni origin and not of Saudi Arabia. It is believed that Muqrin was selected by Abdullah as he was the most likely to continue Abdullah's domestic reform policy, which he was unable to fully devote his time to when he became King.

Since King Salman's crowning, Salman has appointed his nephew Prince Mohammed Bin Nayef to the post of Second deputy Premier, the post also held by Muqrin. This essentially places Salman's nephew to be next in line to the throne, potentially undermining Muqrin's rise. Furthermore, it is now unknown whether Salman will demolish the Allegiance Council altogether.

Muqrin

vs

Bin Nayef

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Saudi Arabia - joining the dots: Part 1 - The return of the Sudairis

Saudi Arabia - joining the dots is a series of blog entries exploring Saudi Arabia's role in the oil markets with a brief look at the history of the royal family and politics that dictate and influence the Kingdom's oil policy.

Part 1 - The return of the Sudairis

On Friday 23^rd January 2015, King Abdullah passed away paving the way for the Sudairi branch of the Royal Family to consolidate power and strengthen its grip over the country. 

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