Tuesday 21 April 2020

Oil ain't free

Really despair at the media approach to the world currently, everything is shock and awe and it shows up how few of the journalists really understand much about anything.

Yesterday was the last day to complete on storage contracts for May in the USA. With a huge fall in demand, production is way ahead of needs. As you would expect the price of oil has been falling, but it has to go somewhere. One little understood aspect of oil production is that once a well is drilled you more or less have to keep it swtiched on - if you cap and stop the flow it might never work again - or only at huge cost to re-start. So you can throttle back production but the rule is don't stop the flow completely. Over-supply is hard to contain.

Also, as a business generally you need cashflow, in Oil and Gas the expensive bit is the exploration and production set-up. Literally a sunk cost. So, to pay your loans back you produce - the price don't matter so much. All the calculations of around cost of production are of course a projection across the lifetime of the project - there is little real-time cost. The daily production cost is very small, it is the financing and set-up that swallowed the investment.

Anyway, in the US some less than smart people decided that going long physical oil whilst the price was low would be a smart thing to do. Those who trade a lot, just laughed; they bought the storage contracts as they felt the physical price was being held up given the demand shock. Try taking physical delivery with no storage. This is what happened yesterday, dumb money getting eaten by smart money to buy storage and get rid of the oil. A good lesson in not to interfer in things you don't understand.

Addtionally, whilst we are on oil prices, China bought a year's worth of physical supply from the US last week at $7 per barrel. Saudi was trying with Russia to sell at $10 to kill the US Shale producers. Now who is laughing. The shale producers may not make it, but neither will the Saudi or Russian budgets.

Plus of course, this demand shock is very deep. Anyone fancy a long-haul holiday this year? Thought not. How about a cruise? Drive to Milan? The only thing even close to this was the 1974 oil shock which was a Government led demand reduction. The idea, also floated today in the media, that there will be some big re-bound to $80 in a year is hilarious. The world is literally full of ships with unused crude  - it has been around for hundreds of millions of years, it is not a perishable good. Months of normality to burn off this surplus and as I just said, normailty is for 2021 people. Yes, no new exploration will be done, but with such massive over-capacity in USA, Russia and Saudi we are looking at a few years of low prices, not a few months.

So, no the real price of oil is not zero but may get close, but it won't get there for us petrol-station using people (tax will end up as near 90% of the price we pay!). Nor there will not be some easy spring back and yes Oil dependent nations will feel a fiscal shock - but who isn't today? Not the big deal many may think it when put into the context of the global recession facing us all.


david morris said...

China bought a year's worth of physical supply from the US last week at $7 per barrel.....

Assuming the producers (& their Bankers) are still in business ?

Bill Quango MP said...

When I filled the car up today, I was quite surprised that Esso thought I, should give THEM, money.

Raedwald said...

Excellent post ... a clear and succinct statement of things that should be more widely known

Nick Drew said...

it is truly amazing how many folks - including white-collar, who ought to know better - don't undertand the remorseless logic of Sunk Costs

and its fundamental concomitant, which is how dumb (or unlucky) investors are what keep the wheels of capitalism turning (Lefties with brains the size of a planet, who purport to make their whole life's work the study of capitalism through marxists lenses, very rarely understand it at all)

everyone knows the ideal capitalist model of: invest / asset built / asset makes desired profit / investor bags the return

but that's only the trivial part of the story of capitalism: equally important (because so prevalent) is ...

invest / asset built / business model misconceived in some way, or badly executed / go bust / asset still exists / sell asset at knockdown price / suck up losses / world carries on / asset still exists / ...

of course, sometimes the asset wastefully goes under with the owner, but not usually: the banks etc step in. And then another kind of waste occurs because the banks don't know how to operate it optimally (see this lamentable Teesside case study:
http://www.cityunslicker.co.uk/2013/10/so-farewell-teesside-power.html )

Darwin hopefully kicks in along the way, so that the whole experience makes the next cycle just a tad less hazardous: investor a bit wiser; bank a bit wiser ...

Nick Drew said...

oh, and one more important corollary: the price of something has VERY LITTLE to do with its cost

(as generally overlooked by the charlatans who sell price-forecasts - and the moronic suckers who buy / *believe* them)

E-K said...

Actually 90% of what we pay is not tax. 900% of what we pay is tax if the lorry tanker price is 10p and the pump price is jacked up to £1 for the taxman. (Simplifying of course.)

This underestimation of the tax we pay on fuel has been a government deception for a long long time now.


Riddle me this.

If there is no such thing as herd immunity then why do test kits look for antibodies and why is so much research going into blood plasma transfusions: immune people to COVID-19 patients.

Trump is absolutely right. The cure must not be worse than the illness and we, blowing the equivalent of 2 brand new hospitals a day because of the lock-down is most certainly worse than the illness, especially given that NICE only placed £30,000 as the limit of each year of extra life given by treatment.

It seems that a catastrophe must be avoided at all costs. Repeat that sentence until you see what I mean.

YDG said...

"If there is no such thing as herd immunity then why do test kits look for antibodies and why is so much research going into blood plasma transfusions"

I think I know this one. Antibodies are produced while someone's immune system is fighting an infection (but see below). Generally, doing that once makes the immune system much better at doing it again later - so future infections are destroyed without ever getting established - and vaccines work by triggering exactly this effect, but without actually giving you the disease. Unfortunately, there are several ways in which this effect can fail.

1. For some infections, the immune system seems to "forget" over time and for the common cold I believe this can be as little as weeks.

2. Viruses constantly mutate and can do so such that the current version is not recognised by the immune system as being "the same" as the one you fought off a while ago.

Plasma transfusions rely on taking the antibodies out of someone who already destroyed the infection and dumping them in a current patient - which should work because the time lag isn't enough for significant mutation in the virus. Of course, if you stored the plasma for years then that would no longer be true.

Scary footnote. I've seen reports that some young people have recovered from Covid 19 without ever producing antibodies. If true this implies they destroyed the virus in some other way that older people don't have. It would also partially explain why "antibody tests" have been so unreliable.

I've just realised that none of this has anything to do with the price of oil, so I'll just slip quietly out the back door ...

E-K said...

Scarier footnote to that then.

A vaccine will not be the solution either.

E-K said...

And it does have to do with the (non) price of oil at the moment. (Thanks for your reply btw.)

Don Cox said...

"If there is no such thing as herd immunity then why do test kits look for antibodies "

They don't, yet. The tests in current use look for antigens -- i.e. the virus -- to see if people with worrying symptoms have this virus.

Antibody tests are still under development and won't be generally available for months. These test for a protein which the body produces in response to the virus.

Don Cox

andrew said...

"The tests in current use look for antigens -- i.e. the virus -- to see if people with worrying symptoms have this virus."

... and according to a friend, they are not too accurate

a) you need to stick a swab in so deep you gag to get a good sample (so some cases can be missed)
b) one deceased person came back negative from two tests, but, it was clear to the respiratory team that that is what the person died of

in short:

still too early to really tell what is going on

except that the incidence in Gwent (newport etc) seems to be greater then London at the moment and no one knows why.