US shale and a glut of crude will prevent Saudi oil shock
Texas’ thriving oil production could be to thank for the world avoiding an economically crippling, triple-digit spike in crude prices following attacks on facilities in Saudi Arabia less than two weeks ago.
Fears of soaring prices and panic buying at petrol pumps failed to materialize, despite the temporary loss of 6% of the world’s supply from Saudi oil wells. Instead of an oil shock spiraling out of control after prices initially surged by a record 20%, crude was trading on Friday only fractionally higher than its $64/b year-to-date moving average.
Saudi Aramco can claim some of the credit for steadying the ship. The kingdom’s national oil company has pledged to restore its capacity to 11 million b/d by the end of the month, after losing half of its output following the attacks. Meanwhile, it will honor all of its contracts to supply customers with crude from existing stockpiles, while engineers try to rebuild bombed out facilities at Abqaiq and Khurais.
“The benign outcome, which we dubbed ‘sneeze’ scenario, seems confirmed,” said Norbert Rucker, head of economics at investment bank Julius Baer. “Ample storage, spare production and spare processing capacities help to weather the disruption.”
Historic oil shocks
Unlike previous oil shocks such as the one in 1979 following the Iranian revolution, or in 1991 when Saddam Hussein’s tanks rolled into Kuwait, the world now has a flood of US shale. The US Energy Information Administration estimates the country’s oil production will exceed 13 million b/d next year. America has already surpassed both Saudi Arabia and Russia in terms of total oil but in June it also briefly led the world in exporting more than 9 million b/d of oil and petroleum products.
“The limited impact of such a major disruption to supply is probably threefold,” said Ole Hansen, Head of Commodity Strategy at Saxo Bank. “First of all global supply from private and official held reserves can meet any shortfall, at least in the short term. Non-OPEC oil production has been rising strongly during the past decade. Not least from the US, which is now relying on much less oil from the Middle East. Finally, the global economic slowdown is real, trade war or not, and rising oil prices into a slowing demand outlook only makes the eventual price drop even stronger.”
More oil flowing from wells in Texas and North Dakota has helped to reduce America’s dependence on Middle East energy and build a war chest in its Strategic Petroleum Reserve (SPR). Saudi Arabia’s shipments to the world’s largest economy have dropped to less than 600,000 barrels per day of crude and petroleum products in June, levels not seen since the mid-1980s. Meanwhile, the US holds almost 650 million barrels in its SPR.
The International Energy Agency (IEA) has said it sees no need to tap its emergency oil stocks in the wake of the attack. Created after the 1973 oil crisis to help protect consumers, the Paris-based watchdog insists its members hold emergency stocks equivalent to 90 days-worth of net imports.
In the immediate aftermath of the attacks on Saudi Arabia President Trump offered to use the SPR to “keep the markets well supplied.” Arguably, the shale revolution has handed Trump the excuse he needs not to get involved in another messy Middle East war and the economic power to keep fuel prices low.
“The shale oil impact can also be described through the US’ willingness to release SPR if needed,” said Hansen. “The rapid reduction in US imports during the past decade has basically left the amount of SPR above what is needed as per the guidelines laid out by the government.”
Crude hit by cooling economies
The fragile global economy may be another factor stopping oil traders from pressing the panic button over the unstable Middle East. China’s standoff with the US over trade tariffs remains a bigger worry for the market if it hits demand for crude. Last month, the International Energy Agency lowered its demand growth forecast to 1.3 million barrels per day in 2020 and warned over the fragility of global markets. For early next year, the watchdog predicts there could be a supply glut of 1.5 million barrels per day unless OPEC cuts output further.
“Shale, both the volumes and their location, has mitigated the impact but that alone is insufficient to explain the relatively tepid market response to date,” said Jamie Webster, senior director of the Boston Consulting Group’s Center for Energy Impact. “But another issue is at play and that is the uncertainty of the global economy and if the growth is going to slow precipitously. Brazil is already in recession and others looking worrying. Given the slowdown in shipping and other indicators, demand expectations are likely to be cut again.”
Of course, if tension in the Persian Gulf between Saudi Arabia and Iran turns into a regional war, potentially completely shutting off almost a fifth of the world’s crude flowing through the Strait of Hormuz then a crippling spike in prices could be unavoidable. Saudi Aramco will also have to deliver on its promises to fully restore the 5.7 million barrels per day lost in the recent attacks on schedule.
Meanwhile, US shale is helping to keep prices in check.