Brent, WTI crude hit 2014 levels on Venezuela, Iran worries

 A crude oil tanker in deep water. ( Photo: Shutterstock )

A crude oil tanker in deep water. (Photo: Shutterstock)

Brent hits $76.16; WTI is at $70.68

Background: the 2014 collapse in oil prices

In 2014, responding to the early stages of the American shale revolution, OPEC turned on a torrent of oil production and deliberately crashed crude oil prices. On June 20th, 2014, Brent crude commanded $114.81 per barrel; by January 23rd, 2015, the price had plummeted to $48.79, and after some modest recovery, found another bottom at $28.94 on January 15th, 2016.

Now, on strengthening global demand and the prospect of re-imposed sanctions on Iran, Brent is selling for $76.12 per barrel, a price not seen since 2014.

OPEC’s original goal was to starve American producers out of the market: shale oil, locked in ‘tight rock’ formations that could only be accessed by hydraulic fracturing, an old but costly technology, had a relatively high breakeven point. It didn’t work, or at least it didn’t work entirely. Lots of companies went bankrupt and people lost their jobs, but it made American oil producers smarter and leaner. Shale producers have lowered their breakeven points to an average of $47-52 per barrel, according to a recent survey, and they’re deploying sophisticated financial instruments to hedge against the risk of catastrophic price collapses in the future.

Eventually, of course, OPEC’s petro-economies felt the pain more than the United States did. OPEC’s fundamental disadvantage in a price war is that those countries’ governments—think Saudi Arabia—use oil profits to fund nearly all of their society. Although the United States has a very diverse economy, based in agriculture, manufacturing, serves, and technology, the typical OPEC member nation is much more sensitive to declining revenues from its state-owned oil producers. So OPEC switched strategies, and at the beginning of 2017 decided that the cartel would cut production, in order to firm up prices and allow its members to pay down some of the debt they’d accrued. 

While OPEC members are perfectly happy to coordinate production limits in order to manipulate prices, in the United States, among private companies, that’s called ‘collusion’, and it’s illegal. The hundreds of private oil producers in the U.S. don’t follow government dictates and can’t scheme to fix prices together. So, naturally, as the price of crude oil increased, American production grew rapidly. The United States is now taking marketshare from the top producers like Saudi Arabia and Russia, dramatically altering the geopolitical landscape. Now OPEC’s production cuts are putting a ‘floor’ on how low oil prices can go, while the aggressive expansion of the oil and gas industries in the United States has put a ‘ceiling’ on how high prices can go.

Take Cheniere Energy, the United States’ largest exporter of LNG (liquefied natural gas), as an example. When Cheniere set out to build its $18B Sabine Pass facility on Louisiana’s Gulf Coast, the worry was that the US wouldn’t have enough natural gas: Sabine Pass was supposed to import LNG from tankers, store it, and then pipe it out. But natural gas is a byproduct of oil production, and eventually Cheniere executives realized that the American oil boom was going to create a massive surplus of LNG in the United States. “We thought that if we’re going to make this thing work, we’re going to have to go all in and literally turn the plant around,” Michael Wortley, Cheniere’s CFO, told the New York Times.

But why is the price of oil spiking now?

The answer is uncertainty about geopolitical risk in two OPEC member nations, Venezuela and Iran. Venezuela’s economic crisis, which began in 2012, has only deepened. In 2016, consumer prices exploded by 800% while the economy contracted by 18.6%; the value of Venezuela’s currency, the bolivar has utterly collapsed, and hunger is widespread. Venezuela’s economic straits have made it exceptionally difficult for the government to finance its oil operations, and its oil production has dropped to less than half of what it was twenty years ago.

The most current OPEC data says that Venezuela produced an average of 1.548M b/d in February 2018, down from its 1997 high of over 3M b/d. Oil comprises more than 90% of Venezuela’s total exports, and it’s about to fall even further, descending through the rest of 2018.

Some of the country’s creditors are looking to take Venezuelan production offline permanently. ConocoPhillips is pursuing a $2B arbitration judgment it was awarded from a dispute with PDVSA (Venezuela’s state oil company) by moving to take some of the beleaguered producer’s Caribbean assets. Specifically, ConocoPhillips wants to seize refinery facilities leased by PDVSA on the islands of Bonaire and St. Eustatius.

“If ConocoPhillips is successful, then it will limit the revenues PDVSA will have and give them even more problems paying their bills and producing their oil,” said Gene McGillian, manager of market research at Tradition in Stamford, in an interview with Reuters.

Meanwhile, the Trump administration is trying to threaten Iran’s access to global oil markets by considering a unilateral withdrawal from the nuclear deal negotiated under the Obama administration. Under that deal, international sanctions against Iranian oil would be lifted gradually as the country dismantled its nuclear weapons program and scaled back its uranium enrichment. If the United States leaves that agreement, it would be free to re-impose sanctions on Iran. President Trump is scheduled to make an announcement on the deal Tuesday afternoon. 

It remains to be seen how exactly how drastically new Iranian sanctions by the United States would affect oil supplies. France and Germany have already said that they could remain in the deal without the United States, and no one knows whether India and China would be willing to curb their imports of Iranian oil if Trump goes it alone. 

“While there is considerable debate over the effectiveness of unilateral US action on Iran, we think that a revival of the threat to lock non-compliant corporates out of US capital markets provides the White House with a pretty powerful stick,” Helima Croft, global head of commodity strategy, wrote in a research note on Friday.

What are the effects of higher energy prices in the United States?

Since the United States has become a net exporter of hydrocarbon energy and will soon become a net exporter of crude oil, higher energy prices now tend to stimulate the American economy rather than stifle it. FreightWaves has reported on the correlation between activity in the oil and gas industries and demand for trucking, especially flatbed. Higher prices will mean, in the short term, more intense fracking activity, which, unlike an offshore rig, can be quickly scaled up to take advantage of price volatility.

In other words, despite the inevitably rising cost of diesel fuel, higher crude oil prices are bullish for the American economy and bullish for trucking in particular. Larger trucking carriers operating on a contract basis with shippers are fairly insulated from oil price shocks, because they will be able to pass along higher diesel costs in the form of fuel surcharges. 

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