The Chickens Are Coming Home To Roost - Years Of Neglect In Oil Upstream Capex

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Includes: BNO, DBO, DTO, DWT, NRGD, NRGO, NRGU, NRGZ, OIL, OILD, OILK, OILU, OILX, OLEM, OLO, SCO, SZO, UCO, USAI, USL, USO, USOD, USOI, USOU, UWT, WTID, WTIU, YGRN
by: HFIR
Summary

The lack of capex spending from the last 4 years is showing up via lower supplies.

"Rodney Dangerfield barrels" are now lower y-o-y by ~1 mb/d in May 2019.

Mexico, Venezuela, Brazil, Norway, and others are disappointing materially to the downside, helping push global crude exports lower.

These barrels lost are permanent, so they won't be coming back anytime soon.

The chickens (lack of upstream investment) are coming home to roost.

Note: This article was first published to HFI Research subscribers on May 26th, 2019. For more exclusive articles like this, please see here for more info.

The oil bulls have always had this one thesis up their sleeves - years of low upstream capex resulting in lower supplies. For the most part of the last 3-years, we've talked about how non-OPEC ex-US supplies would disappoint. "It's coming. It's coming." And earlier this year, we said it will hit in full force by the second half of 2019.

Well? We are now finally seeing the chickens coming home to roost.

Now, before we continue, we want to first explain how we are tracking this. In any oil producing country, it's not the actual oil production that matters, it's the oil exports. Domestic demand may be associated with higher oil prices resulting in higher demand when prices go up. So tracking oil exports is a more effective way to see the amount of oil that this producing country is actually impacting the world with.

"Rodney Dangerfield Barrels"

Source: Kpler, HFI Research

Rodney Dangerfield was famous for his stand-up line, "I get no respect." So we want to call these barrels the "Rodney Dangerfield barrels" because these are the barrels that get no respect.

As you can see from the chart above, the supplies that no one cares about are lower y-o-y by 924k b/d. A decent portion of this is from South America's Venezuela, but the others are explained by the likes of Mexico, Brazil, and Norway.

Mexico

Source: Kpler, HFI Research

Our first subject is Mexico. One important thing to note is that Mexico's crude exports increased in 2018 due to extremely low refinery throughput. According to the IEA, refinery throughput will still be lower y-o-y, but Mexico's crude exports are also lower.

Source: IEA

What this means is that even in the face of lower crude throughput, Mexico's crude exports are falling leading to only one inevitable conclusion - Mexico's crude production continues to disappoint. Pemex also announced that its crude production was only 1.675 mb/d in April. So if Mexico's refinery throughput is expected to average ~600k b/d, it will only be able to export at most ~1 mb/d.

Now compare that y-o-y. From June 2018 to December 2018, Mexico exported 1.171 mb/d. Assuming refinery throughput of 620k b/d from June 2019 to December 2019, Mexico's crude exports would average ~1.05 mb/d, or lower y-o-y by 121k b/d.

While this might not seem like a lot, most of the excess crude exports go to the US making US crude storage tighter and Canadian heavy oil demand higher.

And this trend is expected to continue moving forward as well with production next year another ~120k b/d lower y-o-y pushing Mexico's crude exports closer to ~900k b/d. The continued reduction in supply will only further tighten the global heavy oil balance.

Brazil, the prophecy child

Other than the US, Brazil was supposed to supply ~300k b/d of supply growth for non-OPEC. Instead, it has been flat to lower y-o-y.

Source: Kpler, HFI Research

Rather than growing ~300k b/d y-o-y, Brazil's crude exports are lower by ~20k b/d y-o-y. For April 2019, Brazil's exports were flat y-o-y, while May 2019 exports are lower by ~81k b/d y-o-y.

This massive delta in expectations should be a big warning sign for those expecting Brazil to ramp up production meaningfully this year as it continues to face steep conventional decline rates.

The years of neglect in capex is coming home to roost for this prophecy child of growth.

Norway, the country trying to get away from oil

Source: Kpler, HFI Research

Another problematic and contradictory country is Norway. Norway just can't get out of its own hair. While the production loss is a slow grind to the pit of eternity, it's declining and continues to non-stop. Norway's exports are lower y-o-y by 83k b/d for the first 5-months. While the amount similar to Brazil and Mexico aren't large, these barrels will never return making the supply lost permanently in nature.

No one cares, but these barrels add up...

No one cares about the Rodney Dangerfield barrels, but they do matter. Especially if we start to look from the lens of global crude quality, the decline in South America crude exports is biased to medium/heavy crude. This combined with the fact that the global refinery slate is geared towards medium/heavy and we can see an impending crude quality shortage.

The lack of spending in global upstream capex resulting in accelerated declines in conventional oil production is starting. We are now seeing the consequences, and the barrels lost are permanent. Without years of capex investment and optimism towards oil prices, these barrels will never make it back in the market. This is what causes the cyclicality of oil prices as supply destruction from these are permanent.

The chickens are coming home to roost.

Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.