Notes From CERAweek Conference

Every year, major oil execs meet in Houston to discuss market conditions, the future, and to hob-nob with each other in rich fashion. Last year, the focus was the tension between U.S. Shale producers and OPEC. This year, we got a few key points:

OPEC Warns Shale

Saudi Energy Minister Khalid al-Falih stated on Tuesday, that oil market fundamentals were improving. "There is... cause for cautious optimism as we see the 'green shoots' of the recovery," Falih told energy executives and oil officials gathered at the CERAWeek industry conference in the U.S. energy capital of Houston. Interesting, Mr. al-Falih further stated that inventories have dissipated slower than he anticipated – which may bode well for another OPEC agreement to extend cuts when they meet in May.

But he added words of caution, stating that there would be “no free rides” for non-OPEC Producers and that he believes OPEC’s role is to address “short-term aberrations” rather than long-term structural problems. Indeed, Mr. al-Falih noted that OPEC’s intervention in markets is for a “restricted period of time” and would not “underwrite the investments of others at our own expense and long-term interests”.

Reinforcing those words, he and Russian Oil Minister Alexander Novak further indicated it was much too pre-mature to discuss whether output cuts would be extended.

Shale Warns Shale

Despite years of fast paced growth, and a business model focused on growth rather than capital discipline, U.S. Shale producers seem to be getting smarter. Billionaire oilman Harold Hamm, CEO of Continental Resources, Inc. which is one of the biggest U.S. shale producers, warned U.S. shale producers not to get to exuberant in their spending. Mr. Hamm stated that while U.S. production could go pretty high, “it’s going to have to be done in a measured way, or else we kill the market."

As we discuss in this week’s article Shale Is Back!, this warning is quite appropriate. The U.S. rig count has doubled since June, U.S. production forecasts have been revised upwards significantly, and every indication is that U.S. Shale drillers are going crazy.

However, there does appear to be some moderation in the growth wave.

"This environment requires discipline on costs and strong operating performance. It will reward businesses that can remain highly competitive at these prices," BP's chief Bob Dudley said at the London-based company's strategy day last week.

In other words, BP’s chief is warning his compatriots to exercise capital disclipine and focus on sustained growth rather than simply rushing in on the boom.

But OPEC Wants Everyone to Cooperate

One of the more interesting developments from CERAWeek was an unprecedented meeting between Oil Execs and hedge fund managers about how to best tame the global oil glut. While the Sherman Anti-trust Act prohibits U.S. producers from controlling output or coordinating output reductions with OPEC, they certainly have historically had, at least at the executive level, some level of dialogue. For the first time, oil traders are being brought into the conversation. While few details have been provided, OPEC Secretary General Mohammad Barkindo stated that OPEC plans to hold an event to consider the impact of oil futures on physical crude markets, and indicated that hedge fund executives may be invited to participate.

OPEC and Shale Reach A Truce – Eventually

Everyone realizes its in their interest to cooperate. After a two year war that showed no benefit to OPEC members or U.S. shale, both have realized that they will be unable to continue a price war. OPEC member nations, including powerhouse Saudi Arabia, have seen their deficit rise reserves dwindle.

Saudi Arabia Oil Minister Khalid al-Falih separately told a group of oil industry executives at the conference that the November pact set a new "cooperative framework" for OPEC to address short-term market turmoil.

"All of us realize that such an expanded network of producers with a larger share of global production is the only way to achieve a constructive, stable market for all," he said.

Taken together, the industry seems to be turning to more of a peaceful co-existence with the realization that both need each other for long term stability.

Of course, as we stated earlier, U.S. producers are prohibited by law from coordinating production or controlling pricing. OPEC probably has used just the right amount of carrot and stick to keep U.S. producers somewhat in line. There seems to be a general consensus that if OPEC agrees to extend cuts another 6 months, markets will rebalance over the long-term. If they don’t, we aren’t real sure what will happen.

By: Ty Chapman

Five Star Metals, Inc.

Raising the Bar for Customer Service and Quality

Twitter: @FSM_TY

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