Welcome to The GERM Report by Dan Graeber, a commentary on the intersection between geopolitical events and the price of oil. GERM stands for Geopolitical Energy and Risk Monitoring. Our indicator is based on the expected price volatility by the end of the current trading week.
Risk level: Red
RED: Severe (+/- 4%) ORANGE: High (+/- 2%) YELLOW: Elevated (+/- 1%) BLUE: Guarded (+/- ½%)
THE BOOSTER SHOT
- OPEC decisions likely influenced by Aramco IPO.
- Profit is king.
- Oil production is not the same as oil exports.
OPEC+ has again led the effort to prevent a potential oil price crash, agreeing to trim another 500,000 barrels per day from their collective output. The agreement is a show of unity in the 20-nation effort to keep the market in check. In terms of major producers, it is Saudi Arabia that will continue to lead the pack in terms of production restraint, voluntarily leaving an extra 167,000 bpd offline. The actual restraint, however, is somewhat a moot point given OPEC+ players have already idled about half a million barrels per day. And production levels are not the same thing as export levels, as Saudi Arabia showed after September attacks on its oil processing facilities. What is revealing, is that the revised allotment came just days before shares of Saudi Aramco are listed to the public. The economist Milton Friedman observed that it is the responsibility of a public company to commit to its shareholders by realizing as much profit as possible. As the de facto leader of OPEC, Saudi Arabia then, given the monarchy’s autocratic controls, is driven less by market concerns and more by the blind ambition of success.
Crude oil prices started the week in the red amid ongoing fluidity in the narrative surrounding US-Chinese trade negotiations. A build in US crude oil inventories and the OPEC+ agreement, however, gave the market a tailwind in the latter end of the week. Brent finished trading Friday at $64.37 per barrel, up 3.14 percent for the week.
The closing statement from parties to the OPEC-led effort to control oil supplies spoke of respect for market fundamentals. A stable and balanced oil market, the statement added, is “in the interests of producers, consumers and the global economy.”
The oil price collapse that began in 2014, and saw Brent trade below $30 per barrel in the early part of 2016, left bruises on the market that can still be seen today. Some four years later and the $60 range remains something of a problem, with forecasts from the likes of Saxo Bank showing little forward momentum. That leaves companies still against the wall in the oil market, with job growth in the US oil belt “down significantly,” according to the Dallas Fed.
That suggests a higher price point is desirable for all manner of players in the oil market. OPEC in its concluding statement last week gave support for a “secure supply to consumers, and a fair return on invested capital.” On the consumer side, the price of oil is accommodating spending. Even as disposable personal income decreased in the United States, the world’s largest and most transparent economy, consumer spending increased. Over the long Thanksgiving holiday, Americans hit the road and spent money in record numbers, as lower oil prices mean not only lower retail gasoline prices but more pocket change. Equities markets, meanwhile, are on a tear and the business side of the economy is hungry for more.
OPEC, and even corporate, statements on its market role smack of a benevolence that has no real place in an era marked by me-first ideologues. Milton Friedman, the Nobel-winning economist, observed a half a millennium ago that a business has no real responsibility other than to its shareholders. To pursue something else, namely a benevolent face, is nothing more than a ”cloak” that masks the self-interested pursuit of ascendancy. Saudi Arabia leads the cartel and its global influence is growing, as seen not only by the size of the Aramco IPO, but in Riyadh’s ability to contain the fallout from the Khashoggi slaying and recent attacks in the United States. The OPEC+ agreement then must be seen through the lens of desire and influence. Saudi Arabia is served well by either market scenario. Saudi Aramco can flout its performance to shareholders with stable, or even increased exports, indicating it can do well at a lower oil price point. If markets are tight, however, and crude oil prices stay above $60/bbl, that bodes well for Saudi government coffers. Riyadh may commit to curbing production, but production and exports are two different things. Its swift recovery from the September attacks on the oil processing facilities at Abqaiq and Khurai showed the country can export seemingly unencumbered. According to secondary sources reporting to OPEC economists, Saudi Arabia produced 9.9 million bpd in October, but exported some 7.4 million bpd. And production constraints aside, November figures from ClipperData show exports actually increased to 8.1 million bpd and could easily pass 10 million bpd in December. Production restraint is not the same as export restraint. The recent OPEC+ allotments and market commitments, by that logic, is the “cloak” that gives Saudi Arabia the market cover it needs to succeed.
The trade week begins with the release of the consumer price index in China, and the second largest economy in the world is certainly feeling the pinch of the trade war. Tuesday brings a look at consumer sentiment in a eurozone economy just barely escaping recession. But the big fireworks for the week come Wednesday, when Saudi Aramco shares go public. That release coincides with the OPEC monthly market report for December. And not to be outdone, the British general election is Wednesday as is the next rate decision from the US Fed, so expect the front end of the week to be rather wild. It’s the European’s turn on Thursday for a rate decision, so pay attention to what ECB Chief Christine Lagarde says about the regional economic pulse. And if you’re superstitious, a hyper-active trade week ends on Friday the 13th. It’s going to be a crazy one, folks, with Brent likely to surge toward the Red territory for the week, swinging by as much as 4 percent.