Blood is running in the oil patch

[D.V.]

I would love to find what companies would survive this debacle in the energy sector. Which companies have strong balance sheets that one could buy here? Thanks.

[Cam Hui]

Sorry, I generally don’t comment on company specific questions. If you want to look for companies with strong balance sheets, try looking at the debt to equity ratios or interest coverage ratios of the components of XLE or XOP on sites like Google Finance or Yahoo Finance.

[D.V.]

Saudi Arabia is facing a debacle on two fronts, first the collapse of oil prices and a potential decline in Riyal against the US$. While the cash/spot value of the Riyal remains stable, futures markets is painting a different story. Check it out here;
http://www.telegraph.co.uk/finance/economics/12071761/Saudi-riyal-in-danger-as-oil-war-escalates.html
It would put stresses on Saudi Cash reserves if the Riyal starts to sell off. Saudi cash reserves were around 0.8 Trillion US$, circa early to middle of 2015. They are burning through around 100-140 billion of this cash per year. Yes, they have enough cash reserves to sustain a burn rate of 100-140 billion per year on top of what they earn from selling oil. It will be interesting to see when they feel the need to cut petroleum production and raise prices. I am sure, they are selling US $ and buying the Riyal as I write this, to hold the value of the Riyal where it is, for now. There are estimates that Saudi oil can be produced at US 0.25 $ per barrel. While that may be true, the Saudi oil barrel price is much more dependent on their social security outlays than what they can extract out of mother earth. Exact estimates are hard to find, but the social security outlay of Saudi government would require the barrel price to be north of US $ 40, by certain estimates. It is an interesting experiment (akin to selling GM cars for half the price, in order to bankrupt their rivals), that we are all watching. Happy new year to all reading this.

[Cam Hui]

IMHO, the Saudis would be unlikely to devalue and de-peg from the Dollar. Devaluation would create inflationary pressures and therefore political pressures and turmoil within KSA. Not something the House of Saud is willing to tolerate.

Better the devil you know.

[D.V.]

Are you suggesting Riyal devaluation to gain market share?

[Cam Hui]

I was not suggesting a devaluation. You brought up that possibility in your previous comment.

[D.V.]

All I was trying to figure out was how long could Saudi Arabia could sustain low(er) petroleum prices, based on their cash reserves, social welfare outlays, public spending etc. in an attempt to fathom a bottom in oil prices. The intent of the earlier comment was not to highlight the possibility of Riyal devaluation, but yes, the comments could be interpreted in that manner (I see where you were coming from).
I highly doubt that The house of Saud would engage in deliberate Riyal devaluation for reasons you have noted. Currency markets, could well do that though, creating an even bigger problem for Saudi Arabia.
It is an interesting game of chicken being played.

[Cam Hui]

As I understand it, the Riyal is pegged to the USD, much like the HKD peg. So speculators wanting to attack the Riyal may have to wait a long time.

As for how much KSA has, I refer you to the latest IMF comments that indicates that the Kingdom has five years given its current course (that was before they implemented their latest austerity package):
http://www.aljazeera.com/news/2015/10/imf-saudi-arabia-151022110536518.html
https://www.imf.org/external/pubs/ft/dp/2015/1501mcd.pdf

[D.V.]

Thanks for the references.

[Keith]

I have been in the Oil and gas industry for 38 years. One thing is certain is that in the short term price can go anywhere (1% oversupply is a glut) but eventually it has to be sufficient to replace produced barrels and keep producing countries solvent. At 35 $ approximately 5% of produced barrels can be replaced.

[Daniel]

Keith, I’m curious how do you arrive at the 5% of produced barrels being able to be to be replaced with oil at $35?

[Keith]

Only about 5% of global projects (new production not existing) are economic at 35$ (lots of internet data on this). Existing production declines at 5% a year (5 mb/d). You need to replace that production and account for 1 m/d + of demand growth.

[Daniel]

Thanks

[D.V.]

Saudi Arabia is now taking next steps to contain currency market devaluation by banning short selling of the Riyal. Here is a link;
http://www.bloomberg.com/news/articles/2016-01-20/saudi-arabia-said-to-order-halt-of-local-riyal-forward-options
As the Swiss to $ peg a couple of years ago was broken down by the currency markets (or the Soros defeat of the British central bank in the early 1990s), defending currencies can be a difficult and expensive game. The British gave up defending the pound and the Swiss the Franc, in recent history. Saudi Arabia has already deflated its oil asset, let us see how long will it be able to defend the Riyal in the currency markets. Yes, they have significant $ reserves, but so one thought of the British and the Swiss.

[D.V.]

Geopolitics of oil: Please find these two articles I came across;
1. http://www.cnbc.com/2016/01/25/china-tilts-to-iran-as-xi-caps-visit-with-17-accords.html
2. http://www.marketwatch.com/story/russia-china-and-saudi-arabia-are-on-the-ropes-2016-01-22?dist=beforebell
I agree with Cam, we are close to a generational bottom than in energy prices (WTI could still go to 20$ give or take). Dallas Fed is guiding Texas banks to not foreclose on local drillers, instead facilitate orderly asset sales. Sounds surreal doesn’t it? But that is the world we live in. One day, it is likely Saudi Arabia will pay a huge price for such destructive polices, if it has to seek military help from the US.

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