Home  |   About  |   Energy  |   Politics  |   Software  |   Music

22 November 2014

Press review 22-11-2014 - Shale subprime fears

Image source: Bloomberg. Click for full version.

Concern is mounting over the US bond market. The weight of the petroleum industry in this market doubled since 2008 with the hype created on the so called "shale oil". It had always been questionable weather wells with a 3 year life expectancy could ever support such amounts of debt. With prices now under 80 $/b it is certain the bubble will pop.
Oil at $75 Means Patches of Texas Shale Turn Unprofitable
Isaac Arnsdorf, 20-11-2014

With crude at $75 a barrel, the price Goldman Sachs Group Inc. says will be the average in the first three months of next year, 19 U.S. shale regions are no longer profitable, according to data compiled by Bloomberg New Energy Finance.

Those areas, which include parts of the Eaglebine and Eagle Ford in East and South Texas, pumped about 413,000 barrels a day, according to the latest data available from Drillinginfo Inc. and company presentations. That compares with the 1.03 million-barrel gain in daily national output over the past year, government figures show.

[...] “Everybody is trying to put a very happy spin on their ability to weather $80 oil, but a lot of that is just smoke,” said Daniel Dicker, president of MercBloc Wealth Management Solutions with 25 years’ experience trading crude on the New York Mercantile Exchange. “The shale revolution doesn’t work at $80, period.”
The shale subprime story is slowly percolating into non energy focused media. The US bond market is presently showing signals all too familiar to financial types. The main question now is understanding the broader implications of the default deluge set to hit this market.
What Blows Up First? Part 5: Shale Oil Junk Bonds
John Rubino, 18-11-2014

[...] As for what might cause the junk market to crack, one prime candidate is the oil industry. The shale boom has led a lot of energy companies to ramp up production using other people’s money, much of which is coming from junk bonds. Now, with oil down from $100/bbl to around $80, the nice fat coverage ratios on these bonds are looking disturbingly skinny. This chart shows the divergence between overall junk spreads and energy-sector junk spreads.

The weakest of these companies will default in the coming year, and if oil prices fall another $10, perhaps most of these companies will default. This will of course be dismissed as a localized disturbance unlikely to spread to the broader economy — which is exactly what they said about subprime mortgages last time around.
Some financial commentators are issuing very clear warnings on what is to come, and how it will happen. The investment flows harnessed with the misrepresentation of resources and media hype can dry up very quickly in a spiral of lower revenues and higher bond rates.
Credit Writedowns
Zero rates, resource misallocation, and shale oil
Edward Harrison, 10-11-2014

The nexus of zero rates, resource misallocation, and risk on has favoured shale oil. But the drop in oil prices will call many of these projects into question precipitating a high yield energy funding crisis and a panic dash for the exits. There will be carnage and the question will be whether this carnage causes contagion into other markets.

[...] Third, unless companies can lower breakevens on exploration profitability, the $80 crude environment could be catastrophic to profitability of some shale oil production because the lower revenue fundamentally changes the IRR on these investments. My understanding based on conversations with people familiar with this market is that some projects are already not profitable below the $80-90 level.

If these low prices last more than a few weeks, we are going to see liquidity in the shale oil funding market dry up and then the companies with the worst cash flow positions will run into trouble and default. I don’t think we are there yet. But the drop in price has been so abrupt and so extreme that it will have caught everyone off guard.
Sensing the danger, the mainstream media is now trying to kill the hype it created. The game will not last for much longer.
The Telegraph
Oil price slump to trigger new US debt default crisis as Opec waits
Andrew Critchlow, 14-11-2014

The problem is that much of America’s shale oil is expensive to produce and the industry is comprised of numerous small companies who were forced to leverage their operations with debt to fund the high cost of drilling wells through a process known as hydraulic fracturing, or fracking. Should oil prices fall for a prolonged period of time many who have been forced to borrow at a higher rate could be forced out of business and ultimately default.

According to research from JP Morgan Asset Management, of the 12 largest shale oil basins in the US, 80pc are barely profitable, with prices of oil below $80 per barrel. More worrying is that these projections don’t include interest payments on debt made by shale producers.

“These guys have taken on a lot of debt to fuel their operations in the US,” said Alex Dryden, an analyst at JP Morgan Asset Management. “As the oil price has fallen we have started to see a sell-off in debt and equities in this energy space in the last few months.”
80 $/b are also bringing the Gulf of Mexico under the spotlight. Some still expect a final sprout from this region, but terminal decline is at best a matter of years away.
Wood Mac: Gulf of Mexico oil production fades
Daniel J. Graeber, 14-11-2014

Energy consultant group Wood Mackenzie said it expects U.S. Gulf of Mexico oil production to enter a period of decline after peak output is reached in 2016.

New fields -- Heidelberg and Jack/St. Malo -- should boost output from the Gulf of Mexico with 115,000 barrels of oil equivalent in new production by 2016. Overall production, including the expansion of older fields, means output from the Gulf of Mexico will pass a peak first set in 2009.

"We expect production from 2014 to 2016 to grow 18 percent annually," analyst Imran Khan said in a Thursday statement.

After that, the analyst group said a steady level of investment will be needed to sustain production from the gulf basin. Several new discoveries have been made in deeper waters, where development can cost as much as three times higher than elsewhere in the region.
Jean Laherrère provides further details, noting discrepancies in publicly available reserve figures that point to over statement of real values.
Peak Oil Barrel
Gulf of Mexico Crude Oil and Gas Production
Jean Laherrère, 15-11-2014

In Iraq the Shiite have taken full control of Baiji and the strategic refinery in the city outskirts. This is an important victory that may come to mark a turning point in this war.
Islamic State driven from Baiji, Iraqi oil town
Ed Adamczyk, 14-11-2014

Iraqi troops have retaken the oil refinery town of Baiji from Islamic State militants who seized the strategic town in June.

Although there remain reports of heavy combat in the area, Gen. Abdul-Wahab al-Saadi appeared on Iraqi state television Friday and reported the town, 130 miles north of Baghdad, "had been completely liberated."
There are no news highlights this week regarding Ukraine. The propaganda machines are at full steam and it is not easy to see through their sticky fog. The war seems to rage on and more weaponry is to arrive to both sides of the conflict. Ukraine is yet to get the money it needs to pay its gas debts to Russia, thus it is still not receiving any gas from the east.

On news related to Ukraine is the fast abandonment of the US dollar by Russian companies. A alternative to the electronic payment system used in the west is also slated to soon come on-line. The importance of these actions is obvious and more so if the BRICS stick together in this drive for a new balance of world powers.
Russia moves away from dollar, embraces Chinese currency
Ed Adamczyk, 14-11-2014

Russian President Vladimir Putin said Friday his country was deliberately moving away from using the U.S. dollar for international trade.

He told the Russian news agency Tass, in an interview, Russian oil sold to China will be paid for in renminbi, the Chinese currency, part of a trend by Russian companies to denominate imports and exports in renminbi or rubles, and not U.S. dollars.

"We're moving away from the diktat of the market that denominates all the commercial oil flows in U.S. dollars," Putin said.

Direct transactions between the Russian and Chinese currencies amounted to $5.2 billion in October, up from $307 million in September, the Chinese central bank's China Foreign Exchange Trading System reported.
The ending positive note this week is on energy harvesting gadgets. This particular article provides a broad view on the subject from an American perspective. In Europe, cordless and battery-less devices have been available in the market for some time, especially in the domotics domain. But their usage is not yet common.
The future of energy: You may be walking on it
Everett Rosenfeld, 20-11-2014

Energy "harvesting"—where incidental energy like radio waves, heat and vibrations are harnessed for power—is not a new concept, but the technology to support the idea is getting better. Just as today the kinetic force of a swinging arm can power a wristwatch, some technologists are betting that in the future pedestrians' footsteps can light a city.

Much of energy harvesting's promise lies in manufacturing, where so much energy is lost to the heat, sound and vibrations of machinery. If even a small percentage of that could be captured and reused, then companies could realize significant cost savings—or so the theory goes.

While manufacturers in energy-hungry Europe are already looking to invest in the technology, many American firms are less quick to see the promise in harvesting, experts said.
Next week there are important events to take notice. OPEC is meeting to consider concerted action to support petroleum prices; if they do not act then watch closely the US bond market. Iran will be meeting with the members of the UN Security Council and a final decision to lift sanctions could result. In Ukraine the time to fare without Russian gas might be running out.

Have a pleasant weekend.


  1. Thanks for that Luis, as usual.
    And what do you think of the natural gas market in the US (or North America) ?
    The price is also dropping since a spike in Feb 2014 :
    Although the storage level is since below the 5 years average minimum :
    (and the price seems to go back up on this last page)

    1. Bonjour Yves.

      At this moment "shale" gas does not seem to pose the same risk to the bond market as "shale oil" is posing. Gas reserves are large, extraction constraints are not an issue for now.

      Regarding storage, yes it is a bit below average, this Fall has been colder than usual in the US. But for now I do not see it as problematic, unless the colder weather persists.