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Oil: Saudi Price War Scenarios


  • The conclusion we reached over the weekend is that this price war will only last 3-6 months.
  • Any duration past 6 months will result in such a severe drop in US oil production, that the decline overwhelms the OPEC+ production increase.
  • With Brent now trading at $33/bbl, Russian crude is now selling for $24/bbl as Saudi's OSP cut was designed to destroy Urals pricing.
  • Rosneft's breakeven is around $50/bbl Urals, so by June, it would've taken a bloodbath of $10 billion in 3 months. If it lasts into the end of the year, it will have lost half its market cap to this price war.
  • At the moment, we would assess the probability of the cuts as follows: End of June price war - 75% probability. Meeting in April - 15%. Meeting in March - 10%.
  • Looking for a helping hand in the market? Members of HFI Research get exclusive ideas and guidance to navigate any climate. Get started today »

Welcome to the price war edition of Oil Markets Daily!

Over the weekend, we published 7 flagship weekly articles. Here are the article titles:

  • US Oil Production Sensitivity Analysis To Lower Oil Prices
  • Saudi's Strategy And The Thinking Behind The Recent Meeting
  • Saudi Price War Scenarios (This article)
  • Natural Gas Producers Will Receive The Biggest Benefit From The Latest Oil Market Craze (to be released on HFIR Energy account)
  • Global Oil Supply And Demand Under A Price War Scenario Analysis
  • The Oil Price War To Our Portfolio - Can CRC And Gear Survive The Carnage?
  • What Are We Going To Do With Our Portfolio?

Executive Summary of Our Research

The conclusion we reached over the weekend is that US oil production will fall so fast and hard that, by the end of June, US oil production will be at ~11.75 mb/d. This, combined with the 3-month pain for OPEC+, should bring the end to the price war, but that's not to say things are going to get worse in the short term.

If the price war lasts 6 months, US oil production would fall to ~11 mb/d, or a drop of 1.8 mb/d from the end of 2019. OPEC+ is expected to increase production by ~2 mb/d from current levels, and even in this case, the drop in US oil production will eliminate the increase.

As a result, even if the price war lasts into Q4, the global oil market is headed for an irreversible deficit of ~2+ mb/d as US oil production falls to low ~10 mb/d by the end of the year.

In summary, sub $40/bbl WTI will only be here for 3-6 months.

Saudi Price War Scenarios

There are multiple scenarios we need to discuss here. We will do our best to lay them all out.

We are now entering one of the craziest periods in the energy sector. Valuations have gotten so out of hand that we believe this is the final washout. We are now offering a 2-week free trial and if you wish to read our WCTWs this week, please see here.

This article was written by

HFIR profile picture
HFI Research is focused on investment ideas within the energy sector. The goal is to find contrarian opportunities in the oil and natural gas markets. Members of the investing group Learn more.

Analyst’s 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.

Seeking Alpha's Disclosure: Past performance is no guarantee of future results. No recommendation or advice is being given as to whether any investment is suitable for a particular investor. Any views or opinions expressed above may not reflect those of Seeking Alpha as a whole. Seeking Alpha is not a licensed securities dealer, broker or US investment adviser or investment bank. Our analysts are third party authors that include both professional investors and individual investors who may not be licensed or certified by any institute or regulatory body.

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Comments (239)

Sir V-i-val profile picture
It is nice to see that the EIA predicts that the US will produce 180.000 barrels more in April 2020...or 13.3 million barrels a day...why did they not predict 27 million barrels a day?
Since the Russians began this deliberately, you don't think they spent the last three months hedging every barrel they were going to produce over the next year? And it's laughable to say that they would send a comparable quality at $9 less, surely other refineries would rejig to take advantage of the deals. I read elsewhere that Russia has the second lowest cost of production.
The big question, and as an NG bull more relevant to me, is
What is the cash cost of US Shale. How much marginal production IMMEDIATELY shuts off at 35,30,25 etc.
This is the big question that will drive NG, because all the drops from decreased rigs will take another six months, so the idiots might be producing at record levels while the price is $20!
It's a logical assumption that the Russians have hedged their production before they walked away from the OPEC+ meeting.

In practice, it's IMPOSSIBLE to hedge that much oil. Who would underwrite such massive volume? Mexico is the only country hedging their production, but they are peanuts compared to Russia.

Even the majors in the U.S. don't hedge for the same reason as the Russians. The shalers hedge because they are small.

It's not difficult for Russia to break even in ruble term at any oil price. They simply weaken rubles! 30 rubles = 1 USD in 2014. It went to 60 rubles in a matter of MONTHS in 2015 during the 1st price war. It was still 67 rubles before the OPEC+ meeting 10 days ago. It's 75 rubles today!

What wouldn't surprise me is the oligarchs in Russia have bought massive short positions before Navak walked away from OPEC+, but these are individual endeavors than hedging Russia's oil production as a whole.
I have read somewhere that the Saudis are offering grades that customers don't want to buy with their highly advertised low prices!

It would be interesting to find out what prices they are offering for grades that customers do want to buy.
Yeah, its a volume question and a who is trying to hedge question.

If you are one of the players that can influence price, no one is going to take the counter-party position.

Imagine you are an investment bank, and the CEO of Ford calls. "I'd like to buy 100 million put options on Ford stock".

As I look at it shell and other oil companies are getting what they deserve. The market is already in a over supply. And all the oil companies want to do is keep drilling. With prices so low. They have no choice but to stop drilling. The way they was drilling. Natural gas was never going to go back up. So the oil companies did this to themselves
damonhill profile picture
The banks are also responsible because they extend credit to these money losing oil cos. Investors that keep buying oil co shares are also to blame. If oil prices stay between the $20s and low $30s then almost all these oil cos will become (French) toast. Having said that, OPEC + Russia was looking for a cut - turns out their decision seems to be working since it is now forcing US shale and other high cost producers to cut back production. Remember that the existing OPEC+ production agreement ends this month so based on current events there may still be another meeting to extend existing cuts. However at this point it seems that with demand destruction and future increased production, low for longer is here to stay for a long, long time
PT Larry profile picture
Very likely that oil production is being cut back too much. As China comes back on line we will know. @damonhill @kimbillro
Not with the oil price war. Oil prices are supposed to go down even more in April. Oil companies can afford to keep drilling at these prices
I am not sure why the EIA even bothered to delay the release of the STEO, as it appears to me their numbers are wildly off anyway. They barely have OPEC rising this year and are greatly overestimating current and future shale production. Maybe the two of those will generally cancel each other out, so their other estimates might not be too far off base.
Cford1331 profile picture
They had no clue this was happening, they had no clue and refused to believe American shale would do anything and now we are suppose to believe this? Ha ha ha
trump doesn’t have the political capital to get a Tax Payer funded bailout done, due to the exploding National Debt...!

trump fake news ...?
"Dear Harold, I tried. But Nancy wouldn't let me. Blame her!.... Signed Donald"

Wrong, since when do politicians care about the debt.
Almez profile picture
The oil bottom is here. This is the way that the US in practice joins OPEC+. The target of this price war is not Russia, it's the US.

1) Why are US companies planning capital spend freezes/decreases at such short notice compared to last time? US companies have gotten the message here, restrict production or else.
2) Watch as prices increase, even if we double to $60 WTI, US companies will not increase capital spend
3) Why did trump join in phone calls with Saudi Arabia and Russia on the price war? If the price war was good for US, he wouldn't care. However, estimates show that oil and gas provide 6% of jobs in America, and at some level, oil and gas job losses will outweight consumer benefits.
its called TEXAS... jobs in n dakota dont mean squat....ELECTORAL VOTES.
PT Larry profile picture
Agree with most of that @Almez

Saudi's main target was definitely Russia. The US was a side show. Trump likely called to get a timeline for the Saudi actions.

Shale production was due for a reduction - much needed. If the shale patch is really important, the majors will enter through acquisitions.
"2) Watch as prices increase, even if we double to $60 WTI, US companies will not increase capital spend"

My only worry is that U.S. shales are NOT just a few companies. When you have so many actors, some of them would be ramping up thinking they can get a free ride from those who don't increase production.
Nice probability calculation!

So, I assume you see a 0% chance of the price war extending past June, since this scenario wasn’t mentioned.

Meanwhile, the three events you described are not independent and mutually exclusive, which, even with questionably high probabilities you assigned, means a ca. 20% chance of the price war dragging past June (probabilities of no cut to production till June are 0,85*0,9*0,75=0,19).

That’s based on your assumptions.
Decrease the probability of the production cut in June to 50% and the chance of the prolonged price war is ca. 38%
Hear this: Trump wants to use the tax payer money to bail out shale since the banks don't loan them anymore!


Econ 101: the banks don't loan them for a reason. Perhaps tax payers shouldn't either!
harold hamm was crying on T shoulder today.. it was pathetic.. its ok for shale to flood the market gap that ksa was leaving with their cuts but turn it around and waa waa waa.
"Dear Harold, I tried my best. But Nancy wouldn't let me. Blame her!.... Signed Donald"

yeah even as an investor in shale oil I think the bail out idea is stupid. The industry has done this to itself - stop pushing production into a market that doesn't need it! OPEC are giving the second warning in like 5 years - this has just been stupidity imo
Vittorio Pareto profile picture
What if Putin hedged the price before he told the Saudis he would not go along with the cuts? What if the Russian producers did the same? Did Putin just make a fortune, personally, on the back of MBS’s decision to boost production? And why wouldn’t he have hedged? MBS told him exactly what he would do if Russia didn’t cut.
Lenore Goldberg profile picture
You can't hedge 10M barrels of oil a day. Mexico is the only producing nation I'm aware that attempts it, and they're small potatoes of course.
I wouldn't be surprised if Putin and his buddies loaded up with short positions beforehand knowing by collapsing the OPEC+ meeting, they could make a killing FOR SURE!
Mexico hedges 200 million barrels and struggles not to alter the market too much in the process. Everyone would know if Russia tried to hedge any significant portion of their production.
Trump is going to bail out shale LOL
LOL CRC is not shale so no financial aid
Don't forget aramco IPO. The lockup period is 6 months for Saudi retail investors to be entitled for their 1:10 bonus shares. So that will be mid June. A lot of Saudis citizens subscribed to this IPO. My impression is MBS is popular locally, especially among the young (and Saudi has a young demographic) and I am sure he will want to keep it that way. So I think this support the latest by June thesis.
I think you got a point. MBS is unpopular among the royal court after arresting his family members left and right. If the public also turns against him, it wouldn't be pretty. It's not the public can go against him directly, but those very unhappy royal members may now have an excuse to go against him.

He's gotten his own uncle and cousin arrested for treason. Are these people supposed to forget about it easily? Yes, the king is his father, but he is not the only son. The king also has brothers. Traditionally in KSA the next in line to the crown is the king's brother and not son! If MBS also makes the public angry at him, other royals may launch a coup when the king is in a coma or something. Anything is possible at that age.
MBS has to get the price of oil up to feed those young people he needs as supporters. Also, to get the Aramco stock price higher. He has to move before June. Putin might we hurting by then too.

@Happysoul777 @DBR01
Kill.........................there goes OXY dividend..................
sorry kimbrillio....................frasier goes down frasier goes down.
Come on @chezjonz1 , I bet on Smokin' Joe Frazier. No one can beat Smokin' Joe.
clr 125 to 7...... heading for ?3?
harold hamm looks bad......just sort of mumbling.....wow.the ex divorced him at a good time
Did he pay her cash or CLR shares? Haha
interesting listen 16 min goerhing?

Given the Russian sanctions, the Russian economy has been in a Recession and they need the money and jobs just to stay afloat...!

Oil prices will hit $15 per barrel within a few weeks and US National Wide gasoline will be $1.00 a gallon...?

Putin is stubborn and he wants to be seen as a tough guy...Oil Prices are going lower faster than most think...?

It is estimated that global demand has decreased by 4 million barrels a day that adds to the oversupply already in place......global recession is here Mr Putin...?
damonhill profile picture
Finally Trump got the message that low oil prices are going to hurt the US shale and hence the economy. So he called the Saudi King within the last few hours to discuss oil (remember Bush did the same back in the days when oil was trading at low prices that was hurting the Texas economy). I wonder what favor Trump has asked from the Saudi King this time around?

In the meantime the US has suspended any further sales of oil from SPR

Will the EIA reverse the ADJUSTMENT FACTOR going forward? This is significant because it is telling if the US government has been and is still trying to manipulate oil prices

In the meantime the Texas oil cowboys got the message and cutting back on CAPEX - expect much lower future production:
Neither Trump nor shale cowboys have learned anything. They just want to go back to the way things were, which is terrible for everyone except for them.
shaner1 profile picture
@damonhill. post of the year! Thanks.
Pardon my ignorance, is the current opec cut still in place? Or have all cuts ended?
Cuts expire at the end of this month, though I foresee rampant cheating from now until then under the current circumstances.
Russia has been cheating all these years! The only time they actually followed their quota was when they had a contamination issue, and their customers rejected their delivery. This is one of these reasons no analysts have predicted the Russians would walk away from this meeting when they only had to nod but continued to cheat anyway.

Yeah, that's what baffles me. From Russia's standpoint, why not agree publicly, which maintains confidence & price in oil, then cheat like everyone else?

Instead, so they suffer along with everyone else a crash in the price.
The fundamental question is whether this storm stays around long enough to cause permanent dislocation in the shale patch. For too long, OPEC+ has been manipulating the market to create an artificial supply & demand balance, which the market learned to see through. Now, Russia and KSA have given a gift to holders of energy equities that have been responsible.

If this lasts for a few months, and a company is hedged, this may not matter, and we'll be back to exactly where we were before. If the pain last a little longer, maybe the market sticks it to Vicki Hollub and the rest of the shale cowboys, and says enough is enough.
more pain... they learned last time that a year isnt enough.. plus its bk and drill again...i think private equity has had its fill...
The majors can always buy these distressed assets pennies on a dollar and deploy them one of these days when the price of oil justifies it.

Let them pump and suck tier 1 & 2 dry. Only then shale would go away.
Poor acreage will be less attractive.
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