Wall Street is warning its clients that commodity prices have disconnected from reality.

The big global banks have begun to warn clients that the blistering rally in oil and industrial commodities in recent weeks has run far ahead of economic reality, raising the risk of a fresh slump in prices over the summer.

Barclays, Morgan Stanley and Deutsche Bank have all issued reports advising investors to tread carefully as energy and base metals fall prey to unstable speculative flows in the derivatives markets.

Oil has jumped 40pc since January even as the US, China and the world economy as a whole have been sputtering, falling far short of expectations.

“Watch out: this rally may not last. The risks for a reversal in recent commodity price trends are growing,” said analysts at Barclays.

“There is a huge disconnect between the price action in physical markets where differentials are signalling over-supply and the futures markets where all looks rosy.”

Miswin Mahesh, the bank’s oil strategist, said a glut of excess oil is emerging in the mid-Atlantic, with inventories rising at a rate of 1m barrels a day. Angola and Nigeria are sitting on 80m barrels of unsold crude and excess cargoes are building up in the North Sea and the Mediterranean.

Morgan Stanley echoed the concerns, warning that speculators and financial investors have taken out a record number of “long” positions on Brent crude on the futures markets even though the world economy keeps falling short of expectations. “We have growing concerns about crude fundamentals in the second half of 2015 and 2016,” it said.

Shale producers in the US are taking advantage of the artificial surge in prices to hedge a large part of their future output, more or less guaranteeing that the US will continue to pump 10m b/d and wage a war of attrition against high-cost producers in the rest of the world.

A comparable dynamic is playing out in the copper market, where net long positions have jumped 60pc since the start of the year and helped power the longest rally in copper prices since 2005, even as industrial output grinds to a halt in China.

The warnings come as a draft report from OPEC painted a gloomy picture of energy industry, predicting that oil wouldn’t touch $100 in the next 10 years.

The mini-boom in energy and metals has taken on huge significance since it is being taken as evidence that global recovery is under way and that the dangers of a deflationary spiral have abated. Barclays said that this in turn is a key factor driving up global bond yields, and therefore in repricing the cost of global credit.

If the commodity rally is being driven by investor exuberance in the derivatives markets – rather than a genuine recovery in the world economy – it is likely to short-circuit before long and could even lead to a relapse into deflation. It is extremely difficult for central banks to navigate these choppy waters, raising the risk of a policy mistake.

Fresh data suggest that the US economy may have contracted in the first quarter, and is currently growing at a rate of just 0.8pc, below the US Federal Reserve’s stall speed indicator.

Deutsche Bank has also warned that the energy rally is showing “signs of fatigue”, with near-record inventories in the US, and little likelihood of further stimulus from central banks at this stage to keep the game going. “We see fresh downside risks to crude oil prices heading into the summer,” it said.

Durable oil rallies are typically driven by OPEC cuts but this time the cartel has boosted supply by 500,000 b/d to 31m as Saudi Arabia tries to drive marginal drillers out of business across the world.

Contrary to expectations, America’s shale producers have yet to capitulate. The rig count has fallen by more than half but output has held up longer than expected. While a few drillers have gone bankrupt, others are already signalling plans to crank up production.

Houston-based EOG said it expects to boost output in the third quarter at the Eagle Ford basin in Texas, benefiting from dramatic gains in technology that are cutting shale costs at an astonishing speed. Devon Energy has raised its growth target to 25pc to 35pc this year, having cut its production costs by a fifth in the first quarter.

Tactical stockpiling of crude oil by China and other countries has masked the scale of oversupply but oil analysts say this effect may be fading. The deep economic slowdown in resource-hungry emerging markets has snuffed out the commodity supercycle. There is little sign yet of a durable rebound.

China is still slowing as President Xi Jinping deliberately engineers a deflation of the country’s investment bubble.

A series of cuts in the reserve requirement ratio and interest rates – including a 25pc reduction over the weekend – merely offsets “passive tightening” caused by capital outflows and rising real borrowing costs.

It is not yet a return to ‘”stimulus as usual”.

Not everybody is willing to throw in the towel on crude oil.

Michael Wittner, from Societe Generale, said US output will decline in the coming months as the delayed effects of lower investment start to bite, ultimately vindicating the Saudi’s shock strategy of flooding the market.

Crude stockpiles tend to build up from March to May. This is the “window of greatest vulnerability for a crude price correction”, Mr Wittner said. That window will be closing within weeks.

Source

At Last The “Experts” Wake Up To Oil

by Raul Ilargi Meijer via The Automatic Earth blog,

Boy, did the ‘experts’ and ‘analysts’ drop the ball on this one, or what’s the story. Only yesterday, Goldman’s highly paid analysts admitted they’ve been dead wrong from months, that their prediction that OPEC would cut production will not happen, and that therefore oil may go as low as $40. Anyone have any idea what that miss has cost Goldman’s clients? And now of course other ‘experts’ – prone to herd behavior – ‘adjust’ their expectations as well.

They all have consistently underestimated three things: the drop in global oil demand, the impact QE had on commodity prices, and the ‘power’ OPEC has. Everyone kept on talking, over the past 3 months, as oil went from $75 – couldn’t go lower than that, could it? – to today’s $46, about how OPEC and the Saudis were going to have to cut output or else, but they never understood the position OPEC countries are in. Which is that they don’t have anything near the power they had in 1973 or 1986, but that completely escaped all analysts and experts and media. Everyone still thinks China is growing at a 7%+ clip, but the only numbers that sort of thing is based on come from .. China. As for QE, need I say anymore, or anything at all?

So Goldman says oil will drop to $40, but Goldman was spectacularly wrong until now, so why believe them this time around? As oil prices plunged from $75 in mid November all the way to $45 today (about a 40% drop, more like 55% from June 2014′s $102), their analysts kept saying OPEC and the Saudis would cut output. Didn’t happen. As I said several times since last fall, OPEC saw the new reality before anyone else. But why did it still take 2 months+ for the ‘experts’ and ‘analysts’ to catch up? I would almost wonder how many of these smart guys bet against their clients in the meantime.

I’m going to try and adhere to a chronological order here, or both you and I will get lost. On November 22 2014, when WTI oil was at about $75, I wrote:

Who’s Ready For $30 Oil?

What is clear is that even at $75, angst is setting in, if not yet panic. If China demand falls substantially in 2015, and prices move south of $70, $60 etc., that panic will be there. In US shale, in Venezuela, in Russia, and all across producing nations. Even if OPEC on November 27 decides on an output cut, there’s no guarantee members will stick to it. Let alone non-members. And sure, yes, eventually production will sink so much that prices stop falling. But with all major economies in the doldrums, it may not hit a bottom until $40 or even lower.

Oil was last- and briefly – at $40 exactly 6 years ago, but today is a very different situation. All the stimulus, all $50 trillion or so globally, has been thrown into the fire, and look at where we are. There’s nothing left, and there won’t be another $50 trillion. Sure, stock markets set records. But who cares with oil at $40? Calling for more QE, from Japan and/or Europe or even grandma Yellen, is either entirely useless or will work only to prop up stock markets for a very short time. Diminishing returns. The one word that comes to mind here is bloodbath. Well, unless China miraculously recovers. But who believes in that?

5 days later, on November 27, with WTI still around $75, I followed up with:

The Price Of Oil Exposes The True State Of The Economy

Tracy Alloway at FT mentions major banks and their energy-related losses:

“Banks including Barclays and Wells Fargo are facing potentially heavy losses on an $850 million loan made to two oil and gas companies, in a sign of how the dramatic slide in the price of oil is beginning to reverberate through the wider economy. [..] if Barclays and Wells attempted to syndicate the $850m loan now, it could go for as little as 60 cents on the dollar.”

That’s just one loan. At 60 cents on the dollar, a $340 million loss. Who knows how many similar, and bigger, loans are out there? Put together, these stories slowly seeping out of the juncture of energy and finance gives the good and willing listener an inkling of an idea of the losses being incurred throughout the global economy, and by the large financiers. There’s a bloodbath brewing in the shadows. Countries can see their revenues cut by a third and move on, perhaps with new leaders, but many companies can’t lose that much income and keep on going, certainly not when they’re heavily leveraged.

The Saudi’s refuse to cut output and say: let America cut. But American oil producers can’t cut even if they would want to, it would blow their debt laden enterprises out of the water, and out of existence. Besides, that energy independence thing plays a big role of course. But with prices continuing to fall, much of that industry will go belly up because credit gets withdrawn.

That was then. Today, oil is at $46, not $75. Also today, Michael A. Gayed, CFA, hedge funder and chief investment strategist and co-portfolio manager at Pension Partners, LLC, draws the exact same conclusion, over 7 weeks and a 40%-odd drop in prices later:

Falling Oil Reveals The Truth About The Market

It seems like every day some pundit is on air arguing that falling oil is a net long-term positive for the U.S. economy. The cheaper energy gets, the more consumers have to spend elsewhere, serving as a tax cut for the average American. There is a lot of logic to that, assuming that oil’s price movement is not indicative of a major breakdown in economic and growth expectations. What’s not to love about cheap oil? The problem with this argument, of course, is that it assumes follow through to end users. If oil gets cheaper but is not fully reflected in the price of goods, the consumer does not benefit, or at least only partially does and less so than one might otherwise think. I believe this is a nuance not fully understood by those making the bull argument. Falling oil may actually be a precursor to higher volatility as investors begin to question speed’s message.

How much did Michael’s clients lose in those 7+ weeks?

Something I also said in that same November 27 article was:

US shale is no longer about what’s feasible to drill today, it’s about what can still be financed tomorrow.

And whaddaya know, Bloomberg runs this headline 51 days and -40% further along:

What Matters Is the Debt Shale Drillers Have, Not the Oil

U.S. shale drillers may tout how much oil they have in the ground or how cheaply they can get it out. For stock investors, what matters most is debt. The worst performers among U.S. oil producers in a Bloomberg index owe about 5.7 times more than they earn, before certain deductions, compared with 1.7 times for companies that have taken less of a hit. Operations, such as where the companies drill or how much oil versus gas they pump, matter less.

“With oil prices below $50 and approaching $40, we’re in survivor mode,” Steven Rees, who helps oversee about $1 trillion as global head of equity strategy at JPMorgan Private Bank, said via phone. “The companies with the higher degrees of leverage have underperformed, and you don’t want to own those because there’s a fair amount of uncertainty as to whether they can repay that debt.”

That’s the exact same thing I said way back when! Who trusts these guys with either their money or their news? When they could just read me and be 7 weeks+ ahead of the game? Not that I want to manage your money, don’t get me wrong, I’m just thinking these errors can add up to serious losses. And they wouldn’t have to. That’s why there’s TheAutomaticEarth.com.

A good one, which I posted December 12, with WTI at $67 (remember the gold old days, grandma?), was this one on what oil actually sells for out there, not what WTO and Brent standards say. An eye-opener.

Will Oil Kill The Zombies?

Tom Kloza, founder and analyst at Oil Price Information Service, said the market could bottom for the winter in about 30 days, but then it will be up to whatever OPEC does. “It’s (oil) actually much weaker than the futures markets indicate. This is true for crude oil, and it’s true for gasoline. There’s a little bit of a desperation in the crude market,” said Kloza.”The Canadian crude, if you go into the oil sands, is in the $30s, and you talk about Western Canadian Select heavy crude upgrade that comes out of Canada, it’s at $41/$42 a barrel.”

“Bakken is probably about $54.” Kloza said there’s some talk that Venezuelan heavy crude is seeing prices $20 to $22 less than Brent, the international benchmark. Brent futures were at $63.20 per barrel late Thursday. “In the actual physical market, it’s fallen by even more than the futures market. That’s a telling sign, and it’s telling me that this isn’t over yet. This isn’t the bottoming process. The physical market turns before the futures,” he said.

Oil prices have come down close to another 20% since then, in just one month $67 to $46 right now. And it’s going to keep plunging, if only because Goldman belatedly woke up and said so today:

Goldman Sees Need for $40 Oil as OPEC Cut Forecast Abandoned

Goldman Sachs said U.S. oil prices need to trade near $40 a barrel in the first half of this year to curb shale investments as it gave up on OPEC cutting output to balance the market. The bank cut its forecasts for global benchmark crude prices, predicting inventories will increase over the first half of this year.. Excess storage and tanker capacity suggests the market can run a surplus far longer than it has in the past, said Goldman analysts including Jeffrey Currie in New York. The U.S. is pumping oil at the fastest pace in more than three decades, helped by a shale boom ..

“To keep all capital sidelined and curtail investment in shale until the market has re-balanced, we believe prices need to stay lower for longer,” Goldman said in the report. “The search for a new equilibrium in oil markets continues.” West Texas Intermediate, the U.S. marker crude, will trade at $41 a barrel and global benchmark Brent at $42 in three months, the bank said. It had previously forecast WTI at $70 and Brent at $80 for the first quarter. Goldman reduced its six and 12-month WTI predictions to $39 a barrel and $65, from $75 and $80, respectively ..

Well, after that 2-month blooper I described above, who would trust Goldman anymore, right, silly you is thinking. Don’t be mistaken, people listen to GS, no matter how wrong they are.

Meanwhile, the thumbscrews keep on tightening:

UK Oil Firms Warn Osborne: Without Big Tax Cuts We Are Doomed

North Sea oil and gas companies are to be offered tax concessions by the Chancellor in an effort to avoid production and investment cutbacks and an exodus of explorers. George Osborne has drawn up a set of tax reform plans, following warnings that the industry’s future is at risk without substantial tax cuts. But the industry fears he will not go far enough. Oil & Gas UK, the industry body, is urging a tax cut of as much as 30% [..] “If we don’t get an immediate 10% cut, then that will be the death knell for the industry [..] Companies operating fields discovered before 1992 can end up with handing over80% of their profits to the Chancellor; post-1992 discoveries carry a 60% profits hit.

And hitting botttom lines:

As Oil Plummets, How Much Pain Still Looms For US Energy Firms?

A closer look at valuations and interviews with a dozen of smaller firms ahead of fourth quarter results from their bigger, listed rivals, shows there are reasons to be nervous. What small firms say is that the oil rout hit home faster and harder than most had expected. “Things have changed a lot quicker than I thought they would,” says Greg Doramus, sales manager at Orion Drilling in Texas, a small firm which leases 16 drilling rigs. He talks about falling rates, last-minute order cancellations and customers breaking leases. The conventional wisdom is that hedging and long-term contracts would ensure that most energy firms would only start feeling the full force of the downdraft this year.

The view from the oil fields from Texas to North Dakota is that the pain is already spreading. “We have been cut from the work,” says Adam Marriott, president of Fandango Logistics, a small oil trucking firm in Salt Lake City. He says shipments have fallen by half since June when oil was fetching more than $100 a barrel and his company had all the business it could handle. Bigger firms are also feeling the sting. Last week, a leading U.S. drilling contractor Helmerich & Payne reported that leasing rates for its high-tech rigs plunged 10% from the previous quarter, sending its shares 5% lower.

And, then, as yours truly predicted last fall, oil’s downward spiral spreads, and the entire – always nonsensical – narrative of a boost to the economy from falling oil prices vanishes into thin air. You could have known that, too, at least 2 months ago. Bloomberg:

Oil’s Plunge Wipes Out S&P 500 Earnings

While stock investors wait for the benefits of cheaper oil to seep into the economy, all they can see lately is downside. Forecasts for first-quarter profits in the Standard & Poor’s 500 Index have fallen by 6.4 percentage points from three months ago, the biggest decrease since 2009, according to more than 6,000 analyst estimates compiled by Bloomberg. Reductions spread across nine of 10 industry groups and energy companies saw the biggest cut. Earnings pessimism is growing just as the best three-year rally since the technology boom pushed equity valuations to the highest level since 2010.

At the same time, volatility has surged in the American stock market as oil’s 55% drop since June to below $49 a barrel raises speculation that companies will cancel investment and credit markets and banks will suffer from debt defaults. [..] American companies are facing the weakest back-to-back quarterly earnings expansions since 2009 as energy wipes out more than half the growth and the benefit to retailers and shippers fails to catch up.

Oil producers are rocked by a combination of faltering demand and booming supplies from North American shale fields, with crude sinking to $48.36 a barrel from an average $98.61 in the first three months of 2014. Except for utilities, every other industry has seen reductions in estimates. Profit from energy producers such as Exxon Mobil and Chevron will plunge 35% this quarter, analysts estimated.

In October, analysts expected the industry to earn about the same as it did a year ago. “My initial thought was oil would take a dollar or two off the overall S&P 500 earnings but that obviously might be worse now,” Dan Greenhaus at BTIG said in a phone interview. “The whole thing has moved much more rapidly and farther than anyone thought. People were only taking into account consumer spending and there was a sense that falling energy is ubiquitously positive for the U.S., but I’m not convinced.”

Well, not than anyone thought. Not me, for one. Just than the ‘experts’ thought. But that’s exactly what I said at the time. And I must thank Bloomberg for vindicating me. Don’t worry, guys, I wouldn’t want to be part of your expert panel if my life depended on it. And it’s not about me wanting to toot my own horn either, tickling as it may be for a few seconds, but about the likes of TheAutomaticEarth.com, or ZeroHedge.com and WolfStreet.com and many others, getting the recognition we deserve. If you ask me, reading the finance blogosphere can save you a lot of money. That’s merely a simple conclusion to draw from the above.

And only now are people starting to figure out that the real economy may not have had any boon from lower oil prices either:

How Falling Gasoline Prices Are Hurting Retail Sales

Aren’t declining gasoline prices supposed to be good news for the economy? They certainly are to households not employed in the energy industry, but it might not seem so from the one of the biggest economic indicators due for release this week. On Wednesday, the Commerce Department is set to report retail sales for December. It’s the most important month of the year for retailers, but economists polled by MarketWatch are expecting a flat reading, and quite a few say a monthly decline wouldn’t be a surprise. [..] After department stores saw a 1% monthly gain in November, the segment may reverse some of that advance in the final month of the year.

This whole idea of Americans running rampant in malls with the cash they saved from lower prices at the pump was always just something somebody smoked. And now we’ll get swamped soon with desperate attempts to make US holiday sales look good, but if I were you, I’d take an idled oiltanker’s worth of salt with all of those attempts.

Still, the Fed, in my view, is set to stick with its narrative of the US economy doing so well they just have to raise interest rates. It’s for the Wall Street banks, don’t you know. That narrative, in this case, is “Ignore transitory volatility in energy prices.” The Fed expects for sufficient mayhem to happen in emerging markets to lift the US, and for enough dollars to ‘come home’ to justify a rate hike that will shake the world economy on its foundations but will leave the US elites relatively unscathed and even provide them with more riches. And if anyone wants to get richer, it’s the rich. They simply think they have it figured out.

Why Falling Oil Prices Won’t Delay Fed Rate Increases /span>

Financial markets have been shaken over the past several weeks by a misguided fear that deflation has imbedded itself not only into the European economy but the U.S. economy as well. Deflation is a serious problem for Europe, because the eurozone is plagued with bad debts and stagnant growth. Prices and wages in the peripheral nations (such as Greece and Spain) must fall still further in relation to Germany’s in order to restore their economies to competitiveness. But that’s not possible if prices and wages are falling in Germany (or even if they are only rising slowly).

In Europe, deflation will extend the economic crisis, but that’s not an issue in the United States, where households, businesses and banks have mostly completed the necessary adjustments to their balance sheets after the great debt boom of the prior decade. The plunge in oil prices will likely push the annual U.S. inflation rate below 1%, further from the Fed target of 2%. [..] Falling oil prices are a temporary phenomenon that shouldn’t alter anyone’s view about the underlying rate of inflation.

On Wednesday, the newly released minutes of the Fed’s latest meeting in December revealed that most members of the FOMC are ready to raise rates this summer even if inflation continues to fall, as long as there’s a reasonable expectation that inflation will eventually drift back to 2%. Fed Chairman Ben Bernanke got a lot of flak in the spring of 2011 when oil prices were rising and annual inflation rates climbed to near 4%, double the Fed’s target.

Bernanke’s critics wanted him to raise interest rates immediately to fight the inflation, but he insisted that the spike was “transitory” and that the Fed wouldn’t respond. Bernanke was right then: Inflation rates drifted lower, just as he predicted. Now the situation is reversed: Oil prices are falling, and critics of the Fed say it should hold off on raising interest rates. The Fed’s policy in both cases is the same: Ignore transitory volatility in energy prices.

There are all these press-op announcements all the time by Fed officials that I think can only be read as setting up a fake discussion between pro and con rate hike, that are meant just for public consumption. The Fed serves it member banks, not the American people, don’t let’s forget that. No matter what happens, they can always issue a majority opinion that oil prices or real estate prices, or anything, are only ‘transitory’, and so their policies should ignore them. US economic numbers look great on the surface, it’s only when you start digging that they don’t.

I see far too much complacency out there when it comes to interest rates, in the same manner that I’ve seen it concerning oil prices. We live in a new world, not a continuation of the old one. That old world died with Fed QE. Just check the price of oil. There have been tectonic shifts since over, let’s say, the holidays, and I wouldn’t wait for the ‘experts’ to catch up with live events. Being 7 weeks or two months late is a lot of time. And they will be late, again. It’s inherent in what they do. And what they represent.

Source

We Live In A New World And The Saudis Are The First To Get It

by Raul Ilargi Meijer via The Automatic Earth blog

There are many things I don’t understand these days, and some are undoubtedly due to the limits of my brain power. But at the same time some are not. I’m the kind of person who can no longer believe that anyone would get excited over a 5% American GDP growth number. Not even with any other details thrown in, just simply a print like that. It’s so completely out of left field and out of proportion that you would think by now at least a few more people understand what’s really going on.

And Tyler Durden breaks it down well enough in Here Is The Reason For The “Surge” In Q3 GDP (delayed health-care spending stats make up for 2/3 of the 5%), but still. I would have hoped that more Americans had clued in to the nonsense that has been behind such numbers for many years now. The US has been buying whatever growth politicians can squeeze out of the data and their manipulation, for many years. The entire world has.

The 5% stat is portrayed as being due to increased consumer spending. But most of that is health-care related. And economies don’t grow because people increase spending on not being sick and/or miserable. That’s just an accounting trick. The economy doesn’t get better if we all drive our cars into a tree, even if GDP numbers would say otherwise.

All the MSM headlines about consumer confidence and comfort and all that, it doesn’t square with the 43 million US citizens condemned to living on food stamps. I remember Halloween spending (I know, that’s Q4) was down an atrocious -11%, but the Q3 GDP print was +5%? Why would anyone volunteer to believe that? Do they all feel so bad any sliver of ‘good news’ helps? Are we really that desperate?

We already saw the other day that Texas is ramming its way right into a recession, and North Dakota is not far behind (training to be a driller is not great career choice going forward), and T. Boone Pickens of all people confirmed today at CNBC what we already knew: the number of oil rigs in the US is about to do a Wile E. cliff act. And oil prices fall because global demand is down, as much as because supply is up. A crucial point that few seem to grasp; the Saudis do though. Good for US GDP, you say?

What I see more than anything in the 5% print is a set-up for a Fed rate hike, through a variation on the completion backward principle, i.e. have the message fit the purpose, set up a narrative that makes it make total sense for Yellen to hike that rate. And Wall Street banks (that’s not just the American ones) will be ready to reap the rewards of the ensuing chaos.

And I also don’t understand why nobody seems to understand what Saudi Arabia and OPEC have consistently been saying for ever now. They’re not going to cut their oil production. Not going to happen. The Saudis, probably more than anyone, are the guys who know what demand is really like out there (they see it and track it on a daily basis), and that’s why they’ll let oil drop as far as it will go. There’s no other way out anymore, no use calling a bottom anywhere.

In the two largest markets, US demand is down through far less miles driven for a number of years now, while domestic supply is way up; at the same time, real Chinese demand is way below what anybody projects, and oil is just one of many industries that have set their – corporate – strategies to fit expected China growth numbers that never materialized. Just you watch what other – industrial – commodities fields are going to do and show in 2015. Or simply look at prices for iron ore, copper etc. today.

OPEC Leader Vows Not To Cut Oil Output Even If Price Hits $20

In an unusually frank interview, Ali al-Naimi, the Saudi oil minister, tore up OPEC’s traditional strategy of keeping prices high by limiting oil output and replaced it with a new policy of defending the cartel’s market share at all costs. “It is not in the interest of OPEC producers to cut their production, whatever the price is,” he told the Middle East Economic Survey. “Whether it goes down to $20, $40, $50, $60, it is irrelevant.” He said the world may never see $100 a barrel oil again.

The comments, from a man who is often described as the most influential figure in the energy industry, marked the first time that Mr Naimi has explained the strategy shift in detail. They represent a “fundamental change” in OPEC policy that is more far-reaching than any seen since the 1970s, said Jamie Webster, oil analyst at IHS Energy. “We have entered a scary time for the oil market and for the next several years we are going to be dealing with a lot of volatility,” he said. “Just about everything will be touched by this.”

Saudi Arabia is desperate alright, but not nearly as much as most other producers: they have seen this coming, they’ve been tracking it hour by hour, and then made their move. And they have some room to move yet. Many other producers don’t. Not inside OPEC, and certainly not outside of it. Russia should be relatively okay, they’re smart enough to see these things coming too, and adapt accordingly. Many other nations don’t and haven’t, perhaps simply because they have no room left. Anatole Kaletsky makes quite a bit of sense at Reuters:

The Reason Oil Could Drop As Low As $20 Per Barrel

… the global oil market will move toward normal competitive conditions in which prices are set by the marginal production costs, rather than Saudi or OPEC monopoly power. This may seem like a far-fetched scenario, but it is more or less how the oil market worked for two decades from 1986 to 2004.

Whichever outcome finally puts a floor under prices, we can be confident that the process will take a long time to unfold. It is inconceivable that just a few months of falling prices will be enough time for the Saudis to either break the Iranian-Russian axis or reverse the growth of shale oil production in the United States. It is equally inconceivable that the oil market could quickly transition from OPEC domination to a normal competitive one.

The many bullish oil investors who still expect prices to rebound quickly to their pre-slump trading range are likely to be disappointed. The best that oil bulls can hope for is that a new, and substantially lower, trading range may be established as the multi-year battles over Middle East dominance and oil-market share play out. The key question is whether the present price of around $55 will prove closer to the floor or the ceiling of this new range. [..]

… the demarcation line between the monopolistic and competitive regimes at a little below $50 a barrel seems a reasonable estimate of where one boundary of the new long-term trading range might end up. But will $50 be a floor or a ceiling for the oil price in the years ahead?

There are several reasons to expect a new trading range as low as $20 to $50, as in the period from 1986 to 2004. Technological and environmental pressures are reducing long-term oil demand and threatening to turn much of the high-cost oil outside the Middle East into a “stranded asset” similar to the earth’s vast unwanted coal reserves. [..]

The U.S. shale revolution is perhaps the strongest argument for a return to competitive pricing instead of the OPEC-dominated monopoly regimes of 1974-85 and 2005-14. Although shale oil is relatively costly, production can be turned on and off much more easily – and cheaply – than from conventional oilfields. This means that shale prospectors should now be the “swing producers” in global oil markets instead of the Saudis.

In a truly competitive market, the Saudis and other low-cost producers would always be pumping at maximum output, while shale shuts off when demand is weak and ramps up when demand is strong. This competitive logic suggests that marginal costs of U.S. shale oil, generally estimated at $40 to $50, should in the future be a ceiling for global oil prices, not a floor.

As Kaletsky also suggests, there is the option of a return to an OPEC monopoly and much higher prices, but I personally don’t see that. It would need to mean a return to prolific global economic growth numbers, and I simply can’t see where that would come from.

Meanwhile, there’s the issue of ‘anti-Putin’ sanctions hurting western companies, with an asset swap between Gazprom and German chemical giant BASF that went south, and a failed deal between Morgan Stanley and Rosneft as just two examples, and that leads me to think pressure to lift or ease these sanctions will rise considerably in 2015. Why Angela Merkel is so set on punishing her (former?) friend Putin, I don’t know, but I can’t see how she can ignore domestic corporate pressure to wind down much longer. Russia is part of the global economic system, and excluding it – on flimsy charges to boot – is damaging for Germany and the rest of Europe.

Finally, still on the topic of oil and gas, Wolf Richter provides another excellent analysis and breakdown of US shale.

First Oil, Now US Natural Gas Plunges off the Chart

It’s showing up everywhere. Take Samson Resources. As is typical in that space, there is a Wall Street angle to it. One of the largest closely-held exploration and production companies, Samson was acquired for $7.2 billion in 2011 by private-equity firms KKR, Itochu Corp., Crestview Partners, and NGP Energy Capital Management. They ponied up $4.1 billion. For the rest of the acquisition costs, they loaded up the company with $3.6 billion in new debt. In addition to the interest expense on this debt, Samson is paying “management fees” to these PE firms, starting at $20 million per year and increasing by 5% every year.

KKR is famous for leading the largest LBO in history in 2007 at the cusp of the Financial Crisis. The buyout of a Texas utility, now called Energy Future Holdings Corp., was a bet that NG prices would rise forevermore, thus giving the coal-focused utility a leg up. But NG prices soon collapsed. And in April 2014, the company filed for bankruptcy. Now KKR is stuck with Samson. Being focused on NG, the company is another bet that NG prices would rise forevermore. But in 2011, they went on to collapse further. In 2014 through September, the company lost $471 million, the Wall Street Journal reported, bringing the total loss since acquisition to over $3 billion. This is what happens when the cost of production exceeds the price of NG for years.

Samson has used up almost all of its available credit. In order to stay afloat a while longer, it is selling off a good part of its oil-and-gas fields in Oklahoma, North Dakota, Wyoming, and Colorado. It’s shedding workers. Production will decline with the asset sales – the reverse of what investors in its bonds had been promised. Samson’s junk bonds have been eviscerated. In early August, the $2.25 billion of 9.75% bonds due in 2020 still traded at 103.5 cents on the dollar. By December 1, they were down to 56 cents on the dollar. Now they trade for 43.5 cents on the dollar. They’d plunged 58% in four months.

The collapse of oil and gas prices hasn’t rubbed off on the enthusiasm that PE firms portray in order to attract new money from pension funds and the like. “We see this as a real opportunity,” explained KKR co-founder Henry Kravis at a conference in November. KKR, Apollo Global Management, Carlyle, Warburg Pincus, Blackstone and many other PE firms traipsed all over the oil patch, buying or investing in E&P companies, stripping out whatever equity was in them, and loading them up with piles of what was not long ago very cheap junk bonds and even more toxic leveraged loans.This is how Wall Street fired up the fracking boom.

PE firms gathered over $100 billion in their energy funds since 2011. The nine publicly traded E&P companies that represent the largest holdings have cost PE firms at least $12.7 billion, the Wall Street Journal figured. This doesn’t include their losses on the smaller holdings. Nor does it include losses from companies like Samson that are not publicly traded. And it doesn’t include losses pocketed by bondholders and leveraged loan holders or all the millions of stockholders out there.

Undeterred, Blackstone is raising its second energy-focused fund; it has a $4.5 billion target, Bloomberg reported. The plunge in oil and gas prices “has not created a lot of difficulties for us,” CEO Schwarzman explained at a conference on December 10. KKR’s Kravis said at the same conference that he welcomed the collapse as an opportunity. Carlyle co-CEO Rubenstein expected the next 5 to 10 years to be “one of the greatest times” to invest in the oil patch.

The problem? “If you have an asset you already own, it’s probably going to go down in value,” Rubenstein admitted. But if you’ve got money to invest, in Carlyle’s case about $7 billion, “it’s a great time to buy.” They all agree: opportunities will be bountiful for those folks who refused to believe the hype about fracking over the past few years and who haven’t sunk their money into energy companies. Or those who got out in time.

We live in a new world, and the Saudis are either the only or the first ones to understand that. Because they are so early to notice, and adapt, I would expect them to come out relatively well. But I would fear for many of the others. And that includes a real fear of pretty extreme reactions, and violence, in quite a few oil-producing nations that have kept a lid on their potential domestic unrest to date. It would also include a lot of ugliness in the US shale patch, with a great loss of jobs (something it will have in common with North Sea oil, among others), but perhaps even more with profound mayhem for many investors in US energy. And then we’re right back to your pension plans.

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Crude Crash Set To Continue After Arab Emirates Hint $40 Oil Coming Next

In space, no one can hear you scream… unless you happen to be Venezuela’s (soon to be former) leader Nicolas Maduro, who has been doing a lot of screaming this morning following news that UAE’s Energy Minister Suhail Al-Mazrouei said OPEC will stand by its decision not to cut crude output “even if oil prices fall as low as $40 a barrel” and will wait at least three months before considering an emergency meeting.

In doing so, OPEC not only confirms that the once mighty cartel is essentially non-existant and has been replaced by the veto vote of the lowest-cost exporters (again, sorry Maduro), but that all those energy hedge funds (and not only) who hoped that by allowing margin calls to go straight to voicemail on Friday afternoon, their troubles would go away because of some magical intervention by OPEC over the weekend, are about to have a very unpleasant Monday, now that the next oil price bogey has been set: $40 per barrell.

Luckily, this will be so “unambiguously good” for the US consumer, it should surely offset the epic capex destruction that is about to be unleashed on America’s shale patch, in junk bond hedge funds around the globe, and as millions of high-paying jobs created as a result of the shale miracle are pink slipped.

According to Bloomberg, OPEC won’t immediately change its Nov. 27 decision to keep the group’s collective output target unchanged at 30 million barrels a day, Suhail Al-Mazrouei said. Venezuela supports an OPEC meeting given the price slide, though the country hasn’t officially requested one, an official at Venezuela’s foreign ministry said Dec. 12. The group is due to meet again on June 5.

“We are not going to change our minds because the prices went to $60 or to $40,” Mazrouei told Bloomberg at a conference in Dubai. “We’re not targeting a price; the market will stabilize itself.” He said current conditions don’t justify an extraordinary OPEC meeting. “We need to wait for at least a quarter” to consider an urgent session, he said.

And with OPEC’s 12 members pumped 30.56 million barrels a day in November, exceeding their collective target for a sixth straight month, according to data compiled by Bloomberg. Saudi Arabia, Iraq and Kuwait this month deepened discounts on shipments to Asia, feeding speculation that they’re fighting for market share amid a glut fed by surging U.S. shale production.

The above only focuses on the (unchanged) supply side of the equation – and since the entire world is rolling over into yet another round of global recession, following not only a Chinese slowdown to a record low growth rate, but also a recession in both Japan and Europe, the just as important issue is where demand will be in the coming year. The answer: much lower.

OPEC’s unchanged production level, a lower demand growth forecast from the International Energy Agency further put the skids under oil on Friday, raising concerns of possible broader negative effects such as debt defaults by companies and countries heavily exposed to crude prices. There was also talk of the price trend adding to deflation pressures in Europe, increasing bets that the European Central Bank will be forced to resort to further stimulus early next year.

And while the bankruptcy advisors and “fondos buitre” as they are known in Buenos Aires, are circling Venezuela whose default is essentially just a matter of day, OPEC is – just in case its plan to crush higher cost production fails – doing a little of the “good cop” routing as a Plan B.

According to Reuters, OPEC secretary general tried to moderate the infighting within the oil exporters, saying “OPEC can ride out a slump in oil prices and keep output unchanged, arguing market weakness did not reflect supply and demand fundamentals and could have been driven by speculators.”

Ah yes, it had been a while since we heard the good old “evil speculators” excuse. Usually it appeared when crude prices soared. Now, it has re-emerged to explain the historic plunge of crude.

Speaking at a conference in Dubai, Abdullah al-Badri defended November’s decision by the Organization of the Petroleum Exporting Countries to not cut its output target of 30 million barrels per day (bdp) in the face of a drop in crude prices to multi-year lows.

“We agreed that it is important to continue with production (at current levels) for the … coming period. This decision was made by consensus by all ministers,” he said. “The decision has been made. Things will be left as is.”

Some say selling may continue as few participants are yet willing to call a bottom for markets.

There is some hope for the falling knife catchers: “Badri suggested the crude price fall had been overdone. “The fundamentals should not lead to this dramatic reduction (in price),” he said in Arabic through an English interpreter. He said only a small increase in supply had lead to a sharp drop in prices, adding: “I believe that speculation has entered strongly in deciding these prices.””

Unfortunately for the crude longs, Badri is lying, as can be gleaned from the following statement:

Badri said OPEC sought a price level that was suitable and satisfactory both for consumers and producers, but did not specify a figure. The OPEC chief also said November’s decision was not aimed at any other oil producer, rebutting suggestions it was intended to either undermine the economics of U.S. shale oil production or weaken rival powers closer to home.

“Some people say this decision was directed at the United States and shale oil. All of this is incorrect. Some also say it was directed at Iran and Russia. This also is incorrect,” he said.

Well actually… “Saudi Arabia’s oil minister Ali al-Naimi had told last month’s OPEC meeting the organization must combat the U.S. shale oil boom, arguing for maintaining output to depress prices and undermine the profitability of North American producers, said a source who was briefed by a non-Gulf OPEC minister.”

And as Europe has shown repeatedly, not only is it serious when you have to lie, but it is even worse when you can’t remember what lies you have said in the past. That alone assures that the chaos within OPEC – if only for purely optical reasons – will only get worse and likely lead to least a few sovereign defaults as the petroleum exporting organization mutates to meet the far lower demand levels of the new normal.

In the meantime, the only question is how much longer can stocks ignore the bloodbath in energy (where there has been much interstellar screaming too) because as we showed on Friday, despite the worst week for stocks in 3 years, equities have a long way to go if and when they finally catch up, or rather down, with the crude reality…

Source and chart

Saudi Arabia Declares Oil War on US Fracking, hits Railroads, Tank-Car Makers, Canada, Russia; Sinks Venezuela

by Wolf Richter • December 1, 2014

When OPEC announced on Thanksgiving Day that it would maintain oil production at 30 million barrels per day, chaos broke out in the oil market, and the price of oil around the globe spiraled into a terrific plunge. The unity of OPEC, if there ever was such a thing, was in tatters with Saudi oil minister smiling victoriously, and with a steaming Venezuelan oil minister thinking of the turmoil his country is facing [OPEC Refuses to Cut Production, Oil Plunges off the Chart].

The bloodletting in the oil markets on Thursday led to some wobbly stability on Friday, and for a while it seemed oil had found a bottom, but then the US stock market closed early while crude continued trading, and suddenly all heck re-broke loose, and the US benchmark WTI plunged again and broke the $66-a-barrel mark before coming to a rest at $66.06. After a near 10% dive in two days, WTI is now down 37% since June!

This chart shows the Thanksgiving plunge following OPEC’s decision, the deceptive stability Friday, and the afterhours plunge:

Now more information has emerged, confirming prior “rumors” and “conspiracy theories.”

During the closed-door meetings in Vienna, Saudi oil minister Ali al-Naimi told OPEC members that OPEC had to combat the US fracking boom. If OPEC cut output to raise the price of oil, it would lose market share, he argued. The way to win would be to allow overproduction to depress prices to the point where they would destroy the profitability of North American producers. And they’d have to cut production, rather than OPEC.

With Saudi Arabia’s overwhelming power within OPEC, his argument won against objections from desperate members, such as Venezuela, Iran, and Algeria, which wanted a production cut to push prices back up.

“Naimi spoke about market share rivalry with the United States, and those who wanted a cut understood that there was no option to achieve it because the Saudis want a market share battle,” a source told Reuters to make sure the message got out.

Asked if this was a response to rising US production, OPEC Secretary General Abdullah al-Badri essentially confirmed OPEC had entered the oil war against the American shale revolution: “We answered,” he said. “We keep the same production. There is an answer here.”

The bloodletting is spreading.

While the US fracking boom is the official target, Canada’s tar-sands producers are getting hit the hardest. The process is expensive. Their production is largely land-locked and often has to be transported to distant refiners in Canada and the US by costly oil trains. Yet these high-cost producers are getting the least for their oil: The heavy-oil benchmark Western Canada Select (WCS) traded for $48.40 per barrel on Friday, down over 40% from June, the cheapest oil in the world.

Their shares got knocked down in sync: For example, Suncor Energy dropped 9% on Friday, down 27% since June; and Canadian Natural Resources dropped nearly 10% for the day, down 28% since June.

The US shale oil revolution is bleeding as well. Shares across the board are getting hit, many of them outright eviscerated. If the word “plunge” occurs a lot, it’s because that’s what these stocks did on Friday.

• Goodrich Petroleum plunged 34% on Friday; down 80% from June.
• Sanchez Energy plunged 29.5% on Friday, down 71% from June.
• Clayton Williams Energy plunged 25.6% on Friday, down 61% from May.
• Callon Petroleum plunged 18.6% on Friday, down 60% from June.
• Laredo Petroleum plunged 33.5% on Friday, down 66.5% from June.
• Oasis Petroleum plunged 27.2% on Friday, down 68% from July.
• Stone Energy plunged 24.1% on Friday, down 68% from April.
• Triangle Petroleum plunged 25.6% on Friday, down 62% from June.
• EP Energy plunged 25.3% on Friday, down 54% from June.

The list goes on. Even large oil companies got clobbered:

• Exxon Mobil down 4.2% for the day and 13% from July.
• ConocoPhillips down 6.7% for the day and 24% from July.
• Marathon Oil down 11% for the day and 31% from early September.
• Occidental Petroleum down 7.4% for the day and 24% from June.
• Anadarko Petroleum down 10.5% for the day and 30% since late August.

Then there is the Oil Service sector.

The Market Vectors Oil Services ETF dropped 8.9% for the day and has plummeted 34% from June. The current standout is its 10th-most heavily weighted component, Norway-based SeaDrill which had announced that it would cut its dividend to zero to deal with its mountain of debt, given the current environment. Its shares swooned on Thursday and Friday a total of 28% and are now down 70% from a year ago. The whole sector followed. This is what debt can do when the going gets tough.

Those are among the official targets of OPEC’s scorched-earth oil war. They’ve been hit, and they’re taking on water.

There is collateral damage.

With increasing amounts of oil being carried by oil trains, the railroads, which had been trading near their exuberant 52-week highs in large part due to the lucrative oil-train business, suddenly took a dive on Friday:

• Union Pacific -4.9%
• CSX -3.8%
• Canadian Pacific -8.0%
• Norfolk Southern -4.7%
• Kansas City Southern -5.1%
• Canadian National Railway -4.6%
• Burlington Northern Santa Fe, which is owned by Warren Buffett’s Berkshire Hathaway, isn’t publicly traded. But if the oil-train business gets hit, so will Buffett’s “steal.”

But this pales compared to the carnage in tank-car builders. On Friday, they plunged:

• Greenbrier -15% for the day, -28% from its September high.
• American Railcar Industries -12.9% for the day, -28.3% since August.
• FreightCar America -7.5% for the day, -21% since September.
• Trinity Industries -11.3% for the day, -36% since September.

The oil price move is already cascading through American industry. Bondholders are next. The US fracking boom was built with debt, much of it junk rated. And this pile of debt is now at the confluence of the collapsing price of oil, high costs of production, and sharp decline rates of fracked wells that force drillers to continue drilling just to maintain their revenues. It’s a toxic mix.

And there are victims of friendly fire, so to speak.

Particularly OPEC member Venezuela, dogged by the world’s highest inflation and worst budget deficit, is running out of options. On November 18, President Nicolas Maduro ordered $4 billion in loan proceeds from China to be transferred from an off-budget fund to one counted in the international reserves. The sudden appearance of $4 billion in international reserves pumped up bondholder confidence: the next day in intraday trading, Venezuelan bonds jumped the most in six years.

But it didn’t last long. Within a week, its international reserves dropped by $1.3 billion to $22.2 billion, Bloomberg reported. Venezuela had burned through one third of the Chinese money in one week. Venezuela must have much higher oil prices. Unless a miracles happens, or unless China bails it out altogether – at a steep price – the country is headed for default.

Russia, third-largest oil producer in the world, after Saudi Arabia and the US, also got hit, as did Norway, and their currencies have been brutalized [Ruble Freefall: And the Ugliest Currencies Are?]

But this time it’s different.

This time, OPEC is trying to depress oil prices. In prior years, OPEC tried to push prices as high as possible, but without killing the global economy and demand for oil. The balancing act led to high oil prices that consumers struggled to pay but that allowed the US shale revolution to bloom. If oil had remained at $40 or $50 a barrel, fracking wouldn’t have taken off. OPEC was, ironically, one of the enablers of fracking (yield-desperate investors, driven to near insanity by the Fed’s zero-interest-rate policy, were the other one). And now fracking is threatening to make OPEC irrelevant.

Saudi Arabia, formerly the dominant oil producer in the world, the country whose mere words could shake up markets and manipulate US policies in the Middle East, and the master of an all-powerful OPEC, is reduced to struggling for simple market share, the hard way.

A lot of people believe that the plunge in the price of oil will be brief, and that it has gone pretty much as far as it can go, given production costs in the US and Canada. But the bloodletting in the US fracking revolution will go on until the money finally dries up. Read…   How Low Can the Price of Oil Plunge?

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Special Report: Chavez’s oil-fed fund obscures Venezuela money trail

By Brian Ellsworth and Eyanir Chinea

MACAPAIMA, Venezuela | Wed Sep 26, 2012 7:16am EDT

(Reuters) – The site of what may someday be Venezuela’s first newsprint factory today consists of little more than a warehouse, several acres of cleared tropical savannah, and two billboards bearing pictures of President Hugo Chavez.

More than five years after Chavez first hailed state-owned Pulpa y Papel CA as a vanguard “socialist business,” there is little else to show here in rural southeastern Venezuela for the more than half a billion dollars that state investment fund Fonden set aside for the project.

As with many Fonden investments, tracking the money sent to Pulpaca, as the project is known, is difficult. A Pulpaca annual report for 2011 said the project was stalled for lack of funding. A manager at the dusty gates of the compound declined to comment. So did contractors involved. Requests for interviews with the industry ministry, charged with disbursing Fonden money for such projects, went unanswered.

Fonden is the largest of a handful of secretive funds that put decisions on how to spend tens of billions of dollars in the hands of Chavez, who has vowed to turn the OPEC nation’s economy into a model of oil-financed socialism. Since its founding seven years ago, Fonden has been funneling cash into hundreds of projects personally approved by Chavez but not reviewed by Congress — from swimming-pool renovations for soldiers, to purchases of Russian fighter jets, to public housing and other projects with broad popular appeal.

The fund now accounts for nearly a third of all investment in Venezuela and half of public investment, and last year received 25 percent of government revenue from the oil industry. All told, it has taken in close to $100 billion of Venezuela’s oil revenue in the past seven years.

Fonden attracts scant attention beyond policy experts and Wall Street analysts. But it is at the heart of Chavez’s promise to use Venezuela’s bulging oil revenue to build new industries, create jobs and diversify the economy in the service of his self-styled revolution.

Finding out how much of that money Fonden has spent, and on what, is not easy. The most detailed descriptions usually come from Chavez himself, rattling off multimillion-dollar investments on television while chatting with workers and extolling the virtues of socialism. Fonden does not regularly release lists of projects in its portfolio.

Adversaries excoriate it as a piggy bank that lets Chavez arbitrarily spend billions of dollars with little more than the stroke of a pen and perhaps a celebratory Tweet, with accountability to no one. The secrecy also makes it impossible to determine what went wrong – at Fonden, or at the ministry level, or on the ground — when a project like Pulpaca stalls.

“I’m shocked that we don’t know exactly what has happened to $105 billion,” said Carlos Ramos, an opposition legislator who has led a campaign to extract more information about the fund from the finance ministry. “That is not Chavez’s money. That money belongs to 29 million Venezuelans and as such the information should be available to everyone.”

Critics point out that since Fonden’s creation, Venezuela’s economy, rather than becoming more diversified, is even more dependent on its mainstay: In the first half of this year, oil accounted for 96 percent of export earnings, compared with about 80 percent 10 years ago.

The perception of secrecy has left investors unsure how to measure Venezuela’s fiscal strength. Fitch Ratings this year warned it could downgrade the country’s debt, in part because of transparency concerns. Those same concerns are also helping push up borrowing costs. Despite Venezuela’s ample oil wealth, yields on the country’s bonds are nearly equal to those of impoverished Pakistan, and higher than war-ravaged Iraq’s.

“The visible portion that we can compare in Venezuela vis-à-vis other countries has declined considerably,” said Erich Arispe, director in Fitch Ratings Sovereign Group. “I can’t rate what I can’t see.”

CONTROL THE PURSE STRINGS

Chavez’s control over the country’s purse-strings — unprecedented for any Venezuelan president in more than 50 years — will be a key advantage in his bid for re-election on October 7. Projects successfully executed with billions of dollars in Fonden financing — housing, hospitals and public transportation lines — have improved the lot of Venezuela’s poor, many of whom are already fans of Chavez’s leadership.

“It’s magnificent. It means we can have access to health care, education. All of this is for the people,” said Domingo Gonzalez, 58, after being treated for hypertension at a new Caracas hospital funded by Fonden. “People say Chavez is throwing the money away, but that’s obviously a lie, because otherwise we wouldn’t have hospitals like this one,” he said at the hospital gate near the slum of Petare, where middle-class Caracas merges with a chaotic jumble of narrow winding streets and ramshackle homes.

At the same time, Chavez is under growing opposition fire over abandoned or half-built projects, including some that received millions of dollars from Fonden. A fleet of modern busses for a transit project in the city of Barquisimeto, which received $301 million from Fonden, were left sitting idle so long that vines started growing inside them.

Some information about Fonden’s outlays can be found in annual reports of government ministries. The finance ministry last year released a partial list of projects, following pressure by Ramos, the opposition legislator. A link on Fonden’s website apparently dating from 2007 also provided a partial list of projects, but was taken offline in the first week of September. A cryptically worded internal Fonden document leaked to the press provides an outline of its financial investments, though it omits key details, such as losses on holdings.

Other publicly available data is provided at irregular intervals and in formats that often do not allow for comprehensive comparisons. Public officials pressed for additional information are as laconic as Chavez is loquacious. A Reuters reporter at a Fonden event who approached the finance minister — the fund’s president – to ask questions was physically restrained by two security personnel.

CENTURY OF PLUNDER

Venezuela’s public finances have never been particularly transparent, and much of the oil industry’s proceeds have been squandered for more than 100 years.

Early 20th century dictator Juan Vicente Gomez passed out concessions to friends while enriching himself. The country became known as “Saudi Venezuela” during the 1970s oil boom, but corrupt politicians wasted and stole much of the bounty, and Venezuela’s economy was in ruins by the 1980s, after oil prices crashed.

Chavez’s vow to direct oil revenue to the poor was music to the ears of millions and helped propel him to the presidency in a landslide election victory in 1998.

Fulfilling that promise required years of struggle for control of state oil company Petroleos de Venezuela SA, a tussle that would be a major factor in sparking a bungled 2002 coup. A two-month oil industry walkout meant to force Chavez from power gave him the opportunity to sack PDVSA’s opposition-linked management, as well as half the company’s staff, leaving him firmly in control of oil revenue. He also sharply raised royalties and taxes on all producers operating in Venezuela.

In 2005, as oil prices were reaching new highs, Chavez found a way to sidestep bureaucracy and speed up spending.

Rather than creating a new state agency, Chavez founded a corporation: National Development Fund Inc, universally known as Fonden. Its status as a corporation owned by the finance ministry lets it disburse billions of dollars in state money while subject to few of the reporting and disclosure requirements that apply to government entities.

Money funneled through Fonden is ultimately spent by government agencies, similar to funding from Congress. But it doesn’t require congressional approval. Instead, Fonden outlays begin with Chavez’s approval and are viewed by a board of directors made up of his closest allies.

They include Finance Minister Jorge Giordani, a septuagenarian economist considered the brains behind the country’s byzantine price and currency controls, and Oil Minister Rafael Ramirez, who is also president of PDVSA.

Industry Minister Ricardo Menendez, who oversees the Pulpaca pulp and paper project, also has a seat on the board, as does long-time Chavez ally Vice President Elias Jaua.

It is not clear how often the group meets, and it does not publish meeting minutes.

CITY OF ALUMINUM

In one of his many grand plans, Chavez has vowed to turn the geographic center of Venezuela, a sparsely populated savannah where lush vegetation grows out of reddish soil, into a vibrant “City of Aluminum.”

The flagship project for the plan is an aluminum rolling mill called Servicios de Laminacion CA, or Serlaca, in the town of Caicara.

The company’s most recent annual report shows Serlaca had spent at least $312 million on the project by 2011. A subsidiary of Italian company Salico had been tasked with building equipment for the plant, according to an aluminum industry trade publication dated October 2010 posted on Salico’s website. Salico did not respond to a request for comment.

By 2011, construction of the equipment had been stalled for 18 months for lack of funding, and the project had piled up debts with construction contractors, according to Serlaca’s annual report. A visit last month to the site showed only a clearing with a concrete foundation and structural skeleton for the main factory.

Two union leaders and a civil engineer interviewed at the gates of the site said the project was moving at a snail’s pace and contractors were using their own money to keep it from grinding to a halt. They said infighting between unions had killed seven workers since construction began four years ago.

Complaints from the neighboring community grew as the project remained stalled, and Caicara’s mayor accused Serlaca’s president of using company funds to advance his political career. The industry ministry in 2011 named a committee to look into the project, but Serlaca’s president – later sacked by Chavez – blocked the group’s efforts.

In a televised broadcast in March from Havana, where he was receiving treatment for cancer, Chavez complained the project was moving too slowly and offered a plan to restart it: $500 million from Fonden.

Serlaca’s current president did not respond to calls seeking details about the additional funding.

FINANCIAL ENGINEERING, SOCIALIST STYLE

With cash rushing into Fonden faster than it can build new roads and factories, the fund often has billions of dollars to invest in securities.

But as the leaked internal report shows, Fonden at various times bought risky, high-yield securities in efforts to expand its resources while helping Chavez’s foreign allies. Its unusual portfolio has included bonds issued by ally Ecuador, high-yield derivative securities issued by Lehman Brothers, and Honduran bonds purchased to support then-President Manuel Zelaya.

By 2008, these investments had become problematic: Lehman went bankrupt, and Ecuador declared a partial debt default. In addition, Fonden unloaded the Honduran bonds — purchased at a concessionary rate of 0.75 percent — months after buying them because Zelaya was ousted in a military coup.

Fonden hasn’t revealed whether it lost money in these operations and if so, how much it lost. The fund sold off some of the assets and swapped the remainder for $960 million worth of derivative securities called structured notes, according to the internal Fonden report obtained by Reuters.

But it offers no detail on the market value of those securities. The report does say that Fonden’s auditors pointed out that the fund had not adequately valued some $1.8 billion in complex fixed-income securities. That represented close to a quarter of its liquid assets of $7.9 billion in late 2011, according to the finance ministry’s latest annual report.

CASTING A WIDE NET

Government leaders bristle at the idea that Fonden is Chavez’s slush fund. But Fonden appears to have violated its own internal rules about which investments it does and doesn’t make.

A Fonden 2007 instruction sheet for agencies seeking funding says it does not finance the purchase of buildings, vehicles or shares in companies. But by 2010, it had disbursed nearly $700 million to buy shares in a retailer and two cement-makers — payments generated by several nationalizations ordered by Chavez. It also set aside $46 million to buy an embassy building in Moscow, and $19 million to buy a fleet of busses for use during the 2007 America’s Cup soccer championships.

The president’s office received almost $10 million from Fonden, according to the leaked internal report. The office did not respond to requests for clarification.

Fonden also gave $156 million to a social program called Mothers of the Barrio that provides cash stipends to mothers in extreme poverty, contradicting its stated mission to make “productive investments” that create jobs and spur development.

The national comptroller’s office noted that in 2009 it detected “presumed irregularities” by Mothers of the Barrio, including payments to women who were not registered in the program and did not meet the conditions for participation. The women’s ministry, which oversees the program, did not respond to requests for comment.

Fonden has also become a conduit for financing joint projects with Cuba, bankrolling at least $6.1 billion and disbursing at least $5.1 billion for some of the hundreds of ventures the two allies had signed as of 2010.

Fonden does not say what the projects are.

Press releases from bilateral meetings mention only several of the projects signed at each one, which run the gamut from a software development firm to a scrap-metal recycling operation. An agency overseeing the projects called the Cuba-Venezuela Joint Commission, which reports to the oil ministry, did not respond to requests for information.

For Pulpaca, the two billboards at the site provide details on what has been visibly completed to date: around $43 million to clear land and build the warehouse. Its last annual report says that as of 2011, it had spent nearly $530 million.

On a visit in August, silence hung over the compound. Trucks and bulldozers sat idly parked in rows. There was no sign of activity, or of the football-field-size machines that will be needed to turn Caribbean pine into paper.

Even so, it continues to enjoy financial support from the government. Around the time Pulpaca said it was struggling to move forward, Congress approved an additional $305 million for the project. That, combined with the Fonden outlays, brings total funding to $845 million.

And that’s not all. Pulpaca said in a recent presentation that it will need $1.4 billion to complete the newsprint factory.

(Additional reporting by German Dam and Maria Ramirez in Puerto Ordaz, and Gustavo Palencia in Tegucigalpa; editing by Kieran Murray and John Blanton)

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Consumers plot emergency oil release as Saudi decries high prices

By Yann Le Guernigou, Muriel Boselli and Jonathan Leff

PARIS/NEW YORK | Wed Mar 28, 2012 6:19pm EDT

PARIS/NEW YORK (Reuters)- Saudi Arabian Oil Minister Ali al-Naimi mounted his most direct rhetorical attack against high oil prices on Wednesday, but showed no sign of moving to increase supplies even as France joined the United States and Britain in talks for a release of strategic reserves.

Two weeks after Reuters initially reported that Britain and the United States were set to agree on tapping emergency stockpiles, French Energy Minister Eric Besson said the European nation was also in talks with Washington. Le Monde reported that the move could come in a matter of weeks.

At the same time, the Financial Times published a rare opinion piece by the head of the world’s largest crude oil exporter, who said a feared shortage of oil supplies was a “myth” but reiterated that Saudi Arabia was ready, able and willing to meet any gap in supplies.

The moves emphasized the growing concern from both sides of the market — producers and consumers — about the economic and political impact of the 15 percent jump in oil prices this year. But it also highlighted the different responses they are taking.

Any release of strategic reserves is expected to be based on the assumption that oil markets face a shortage of crude, putting Western economies directly in opposition to the opinions offered this month by top exporter Saudi Arabia.

Naimi’s comments were his bluntest yet on oil prices, which have been driven by the loss of supplies from several producers across the world and, more importantly, by the threat of a disruption from Iran.

“The bottom line is that Saudi Arabia would like to see a lower price,” he said.

“Supply is not the problem, and it has not been a problem in the recent past. There is no rational reason why oil prices are continuing to remain at these high levels.”

But in the editorial, Naimi fell short of saying that the kingdom planned to increase production. Oil markets, already trading lower on the day after news of the French talks with the United States, barely budged after his comments.

PRICE THREAT

Oil markets have been gripped this year by expectations U.S. and EU sanctions against Tehran aimed at halting the OPEC nation’s nuclear ambitions will cause a shortage in global oil market.

Global supplies are already down by more than a million barrels per day, according to a Reuters survey, due to outages in Yemen, Syria, South Sudan and the North Sea.

Rising oil prices have become a major headache for politicians around the world, including U.S. President Barack Obama who is aiming for re-election in November and facing public anger over soaring U.S. gasoline prices.

Earlier in March, British sources said London was prepared to cooperate with Washington on a release of strategic oil stocks that was expected within months, in a bid to prevent fuel prices from choking economic growth.

A White House official reiterated that the United States was considering a reserve release but no decisions had been made.

“As we have said repeatedly, while this is an option that remains on the table, no decisions have been made and no specific actions have been proposed,” White House spokesman Josh Earnest told reporters.

“Anybody who tries to convince you — in this government or any other government, frankly — that specific decisions have been made or actions have been proposed is not speaking accurately.”

Fuel prices in France have hit record levels, prompting an intense debate between presidential candidates, also ahead of a national election. The French budget minister and government spokeswoman, Valerie Pecresse, told journalists France had joined the United States and the UK in IEA consultations to receive authorization to draw from strategic stocks.

Oil reserve releases are normally coordinated by the International Energy Agency that represents 28 industrialized countries on energy policy.

But the head of the IEA, Maria van der Hoeven, has said on several occasions that a coordinated IEA release is not warranted because there is no significant supply disruption on world oil markets. Germany and Italy say they are opposed.

Van der Hoeven said earlier this month that countries could choose unilaterally to release stocks in consultation with the agency. The IEA declined further comment on Wednesday.

The Paris-based IEA has authorized only three coordinated releases since it was founded in 1974, with the last one in June 2011 in response to lost Libyan production during its civil war.

The government in Berlin said it was unaware of any official request from the United States to release emergency oil stockpiles and did not believe the current situation justified such action under German law.

The German law on oil provisions says emergency reserves can only be released in the case of “physical disruption to supplies. In our view, there is no physical shortage at the moment,” a government spokeswoman told reporters.

SAUDI REASSURES

Saudi Arabia is the only country in the world with significant spare capacity to compensate for a major supply shortfall.

Naimi last week insisted Saudi Arabia could immediately ramp up production up to its full strength — 12.5 million barrels per day (bpd) — from 9.9 million bpd now if buyers requested more oil.

In his piece on Wednesday, Naimi said that the OPEC kingpin did not want rising fuel costs to undermine the economy of consumer nations. Earlier this year he identified $100 a barrel as an ideal price for producers and consumers, about $25 below current world prices.

“I hope by speaking out on the issue that our intentions – and capabilities – are clear. We want to see stronger European growth and realize that reasonable crude oil prices are key to this,” he wrote, adding Saudi Arabia had a responsibility to “do what it can to mitigate prices.”

But, echoing his comments from last week, the oil minister said that it was not actual supply disruptions that were driving up prices, but political tensions and worries about potential shortages that were driving the market.

“It is the perceived potential shortage of oil keeping prices high – not the reality on the ground,” he said. “There is no lack of supply. There is no demand which cannot be met.”

(Additional reporting by Emmanuel Jarry, Jeff Mason, Stephen Brown, Marcus Wacket, Jonathan Leff. Writing by Matthew Robinson; Editing by Marguerita Choy)

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Iran Sanctions Tighten as OSG to Frontline Halt Crude Cargo

Feb. 13 (Bloomberg) — Sanctions on Iran are tightening after Overseas Shipholding Group Inc., Frontline Ltd. and owners controlling more than 100 supertankers said they would stop loading cargoes from the Organization of Petroleum Exporting Countries‘ second-largest producer.

OSG, based in New York, said Feb. 10 that the pool of 45 supertankers from seven owners in which its carriers trade will no longer go to Iran. Four OSG-owned ships, managed by Tankers International LLC, called at the country’s biggest crude-export terminal in the past year, ship-tracking data compiled by Bloomberg show. Nova Tankers A/S and Frontline, with a combined 93 vessels, said Feb. 9 and 11 they wouldn’t ship Iranian crude.

Previous efforts to curb Iran’s oil income and stop it from developing nuclear weapons failed because the structure of the shipping industry means vessels are often managed by companies outside the U.S. or European Union. An EU embargo on Iranian oil agreed to Jan. 23 extended the ban to ship insurance. With about 95 percent of the tanker fleet insured under rules governed by European law, there are fewer vessels able to load in Iran.

“It’s the insurance that’s completed the ban on trading with Iran,” said Per Mansson, a shipbroker for 31 years and managing director of Norocean Stockholm AB, which handles tanker charters. “Last summer, many countries started to be a little bit tougher, but the insurance is the real trigger.”

Kharg Island

OSG’s Overseas Rosalyn, which can carry about 2 million barrels, arrived at Kharg Island on Jan. 27 and departed the next day, tracking data compiled by Bloomberg show. It left about 16 feet deeper in the water, an indication it loaded cargo. The vessel is managed by Tankers International, which has its head office in Cyprus. OSG complies with all U.S. and European laws and its headquarters in New York doesn’t manage charters, OSG Chief Executive Officer Morten Arntzen said in an e-mail Jan. 30.

Tankers International told owners the pool’s vessels will no longer sail to Iran after changes to EU regulations, Arntzen said in a Feb. 10 e-mail. Insurers are no longer able to cover vessels trading in the Persian Gulf nation, he wrote.

Ship owners sometimes group their vessels to coordinate charters and improve earnings. The Tankers International pool operates 45 very large crude carriers, or VLCCs, from OSG and six other companies, including Antwerp-based Euronav NV and St. Helier, Channel Islands-based DHT Holdings Inc.

Nova Tankers

“All the owners in the pool have stated that they will not trade Iran because of the consequences,” DHT CEO Svein Moxnes Harfjeld said by phone Feb. 10. “DHT is complying with all relevant regulations and sanctions, and following recent developments our vessels have been instructed not to trade Iran.”

Frontline companies including Hamilton, Bermuda-based Frontline Ltd. and Frontline 2012 won’t ship Iranian crude, Jens Martin Jensen, chief executive officer of Frontline Management AS, said by e-mail and phone on Feb. 11 and 12. Frontline operates 43 VLCCs, according to its website.

Nova Tankers, the Copenhagen-based operator of a pool of ships including vessels owned by Mitsui O.S.K. Lines Ltd., won’t load Iranian crude because of European sanctions, Managing Director Morten Pilnov said by phone from Singapore on Feb. 9. The pool will have about 50 vessels by the end of this year, according to data on its website.

Nippon Yusen K.K., the second-largest owner of VLCCs, won’t carry Iranian oil if it means ships aren’t insured, Yuji Isoda, an investor relations manager for the Tokyo-based company, said Feb. 9. The company doesn’t yet know how its insurers will handle the EU sanctions, he said by phone.

Tighter Restrictions

U.S. and EU leaders are trying to tighten restrictions on business with Iran, which produced 3.55 million barrels of crude a day in January, 11 percent of OPEC’s total, according to data compiled by Bloomberg. Oil sales earned Iran $73 billion in 2010, accounting for about 50 percent of government revenue and 80 percent of exports, the U.S. Energy Department estimates.

The United Nations has imposed four sets of sanctions on Iran, and the International Atomic Energy Agency said in November the country had studied making an atomic bomb. The government in Tehran says its nuclear program is for civilian purposes and that documents held by the IAEA purporting to show designs and tests of weapon components are fakes.

Iran has threatened to block shipments through the Strait of Hormuz in the Persian Gulf, through which about 20 percent of the world’s globally traded oil passes. Crude futures in New York advanced 32 percent to $100.19 a barrel since Oct. 4.

Senate Bill

More trade with Iran may be blocked if a bill approved Feb. 2 by the U.S. Senate Banking Committee becomes law, making U.S. companies responsible for the actions of their foreign units when dealing with Iran. A spokesman for committee chairman Tim Johnson, a South Dakota Democrat, declined to comment.

While the Japanese government said last month it would curb imports from Iran, India’s Foreign Secretary Ranjan Mathai said Jan. 17 his country wouldn’t. China, the Persian Gulf country’s largest customer, needs the oil for development, Vice Foreign Minister Zhai Jun told reporters Jan. 11.

Founded in 1948, OSG has 111 vessels and 3,500 employees, according to its website. Its biggest shareholders include the family of board members Oudi and Ariel Recanati, who control about 10 percent, data compiled by Bloomberg show. Oudi Recanati is an Israeli citizen and Ariel Recanati is a U.S. citizen, according to a Sept. 6 filing with the Securities and Exchange Commission. Charles A. Fribourg sits on the board of OSG and Continental Grain Co., the data show.

Marshall Islands

Shares of OSG, which has 14 supertankers, fell 71 percent in the past year as a glut of vessels drove down transport rates. The company will report a loss of $178.6 million for this year, down from $204.4 million for 2011, according to the median of five analyst estimates compiled by Bloomberg.

Three other OSG vessels from the Tankers International pool called at Kharg Island in the past year, data compiled by Bloomberg show. They fly the Marshall Islands flag, which means they are registered there for regulatory purposes, according to data on the website of International Registries Inc. Almost 9 percent of the tanker fleet is flagged in the Marshall Islands, behind Panama and Liberia, according to data compiled by London- based Clarkson Plc, the world’s biggest shipbroker.

“Ship owners and brokers are now seeing a tightening of sanctions,” said Bob Knight, managing director of tankers at Clarkson in London. “This is a sign that sanctions are starting to bite.”

–With assistance from Michelle Wiese Bockmann and Rob Sheridan in London. Editors: Dan Weeks, Sharon Lindores.

Source

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