OPEC+ is mystified that the oil market somehow misread the latest tweaks to its lattice of oil production targets, carve outs and claw-backs that now have all the clarity of a tax form. Brent crude hiccupped after the oil exporters’ club met and indicated it wants to unwind some output cuts. That prompted several ministers to chide bearish analysts and reporters,
and reiterate the group’s stabilizing effect — from the stage at an economic conference in Russia, the de facto co-head of OPEC+ currently engaged in a less-than-stabilizing invasion of its neighbor. Oil prices ticked up a bit.
The likes of Saudi Arabian Energy Minister Prince Abdulaziz bin Salman seem to be focused on a distraction, perhaps even whistling past the graveyard. Two transactions show why. A few days before OPEC+ met, ConocoPhillips, the largest US exploration and production company, announced a $23 billion deal, including assumed debt, to acquire Marathon Oil Corp. A day later, Riyadh announced a secondary offering of shares in Saudi Arabian Oil Co., or Saudi Aramco, which raised just over $11 billion.
Conoco’s deal continues the consolidation of the fragmented US onshore oil and gas sector. Back in 2019, Conoco Chief Executive Ryan Lance delivered a reality check, pointing out that, despite the vaunted success of the shale boom, the excessive spending involved had trashed the industry’s returns. Investors burned by this and mindful of climate change concerns would no longer pay up for the oil option embedded in E&P stocks, either. Rather than exuberance, they demanded resilience exemplified by scale, efficiency and cash payouts.
It worked. Between the end of 2019 and the end of 2023, the E&P sector’s average net debt fell from 3.7 times Ebitda to 1.2 times and aggregate free annual cash flow jumped from $6.2 billion to $33.1 billion. Energy stocks’ total return bested the S&P 500 by 10 percentage points. Consolidation played a big part by bolstering balance sheets, cutting overhead and marrying up adjacent acreage for more efficient drilling. The collective share of US shale resources controlled by just the integrated oil majors plus Conoco jumped from 14% in 2019 to 25% today, according to Rystad Energy. In shale’s Permian basin heartland, just six firms now control 62% of the remaining resources.
A decade or so ago, at the height of oil’s first shale boom, the ungainly portmanteau “manufracturing” was thrown around; the idea being that, with shale’s resources unlocked, oil producers were less about risky
wildcatting and more about dependably fracking wells the way a factory stamps out parts. It was aspirational then given the industry’s financial incontinence but is closer to where the likes of Conoco are taking things now, focused on sweating rigs and fracking crews efficiently across a bigger, diversified set of resources rather than adding and dropping them as oil prices swing.
OPEC+, on the other hand, remains in the price management business. Back in 2016, when Prince Mohammed bin Salman was first making his pitch to remake Saudi Arabia, he told Bloomberg Businessweek that “we don’t care about oil prices—$30 or $70, they are all the same to us.” It sounded overambitious and has turned out to be so. As Bloomberg’s Chief Emerging Markets Economist Ziad Daoud pointed out recently, Riyadh’s slew of transformational projects have raised, rather than reduced, the public budget’s breakeven oil price.
This explains the decision to sell another sliver of Aramco. The initial public offering in 2019 was also an exercise in price management, with Saudi Arabia opting for a mostly domestic sale, in part to reach an arbitrary $2 trillion valuation that deterred international investors; a level it reached quite quickly, and briefly. At the time, the energy minister again chided those saying the $2 trillion figure was too high. It is notable that the latest stock sale, which reportedly went mostly to foreign buyers, was priced below the IPO level and at a significantly higher dividend yield.
Saudi Arabia’s continued dependence on oil revenue also explains why, far from not caring about where prices go, the energy minister has become famous for springing surprises on the market — a voluntary production cut here, an extension there — designed to squeeze short sellers. And Saudi Arabia is one of the more robust economies in OPEC+.
The bearish reaction to the latest announcement may well underestimate Saudi Arabia’s willingness to hold barrels back later this year if prices drop too much. Yet the signal about bringing barrels back, however finely nuanced, could not help but remind the market that those spare barrels are waiting there hanging over any rallies.
The wider problem for OPEC+ is that, while ministers focus on trying to master oil prices, other actors are working to reduce their exposure to them.
On the supply side, Conoco and other US oil giants aren’t chasing the oil price but rather protecting themselves from it by grinding out an ever lower cost of production. As much as the first shale boom challenged OPEC a decade ago — forcing it to expand into OPEC+ — the group now competes with a leaner, less indebted E&P sector better able to withstand volatile prices. The continued setting of records in US oil production is why OPEC+ is now trying to ease more of its barrels back into the market to shore up its share.
And shale’s rationalization is far from complete. Some 40% of the rigs drilling shale wells are operated by privately-held companies that account for only 27% of production, according to Bernstein Research. Consolidating these smaller firms will reduce breakeven prices further. Meanwhile, President Joe Biden’s unprecedented release of strategic petroleum reserves in 2022 showed that big consuming nations are willing to intervene when prices spike.
On the demand side, OPEC+ may be cheered by the recent slowdown in EV sales growth. But the wider context is what matters here. Models sporting a socket still account for virtually all of the growth in passenger vehicle sales worldwide and 40% of sales in the biggest market, China. Even in laggardly North America, the market share of EVs went from one-in-fifty in 2019 to about one-in-ten by the end of 2023. As with shale barrels, but more so, the cost trend in cleantech remains downward.
Working to keep prices high boosts cash flow for rival producers to OPEC+ and increases the incentive for customers to diversify their energy consumption away from oil. If the market isn’t buying your story, sometimes you just need a new story.
Credit: Bloomberg
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