Arab SWFs Struggling with Rentier State Strategies

The last days Abu Dhabi Pension Fund and state-holding company ADQ announced that they will be investing $2.1 billion in ADNOC’s gas pipeline assets, acquiring a 20% stake in the ADNOC subsidiary with lease rights to 38 gas pipelines covering 982 kilometers.

The Abu Dhabi fund will partner in deal announced in June by a consortium of Global Infrastructure Partners (GIP), Brookfield Asset Management, Singapore’s sovereign wealth fund GIC, the Ontario Teachers’ Pension Plan Board, NH Investment & Securities and Italy’s Snam. The latter groups stated they will invest $10.1 billion in ADNOC gas pipeline assets for a 49% collective stake. ADQ, set up in 2018, is the owner of Abu Dhabi Ports, Abu Dhabi Airport and bourse operator ADX.

At the same time another Abu Dhabi SWF Mubadala announced that it has taken a 3.1% stake in the Spain-based gas system operator Enagas. The new stake falls in line with Mubadala’s investments in other Spanish assets in the oil and technology industries. Enagas owns stakes in firms in the Mediterranean region, Latin America and the United States.

Mubadala also announced that it invests 200 million euros ($235 million) in German pharmaceutical company Evotec SE as part of the Abu Dhabi wealth fund’s plans to expand its portfolio. The Abu Dhabi-based fund, managing around $232 billion, has engaged on a diversification strategy plowing mainly its cash in technology to prepare for a less-crude dependent future. Mubadala Investment stated that it will subscribe to 9.2 million Evotec shares, taking about a 5.6% stake in a private placement. In September, Mubadala acquired a 5% stake in private equity firm Silver Lake.

The Abu Dhabi moves stand contrary to its main rival Qatar’s Qatar Investment Authority (QIA). The latter, holding the main revenues of the former OPEC-member, officially has already assessed its own hydrocarbon sector companies investments. Mansour Al Mahmoud, QIA’s CEO, stated at an International Institute of Finance event that QIA has more than half of its assets invested in private equity and listed shares as it chases higher returns.

He indicated that QIA’s “approach is always to be a long-term investor, this gives us an advantage”. With around $295 billion in assets, the fund is now active mainly in stocks, private equity and venture capital. Mahmoud added that QIA had stopped investing in fossil fuel companies.

Still, roaming through last weeks’ media reports, the picture is diffuse. Arab SWFs also are reported to have invested in the Russian Sovcomflot IPO last week. The Russian entity has listed 17.2% of the company on the Moscow Stock Exchange, raising US$550M.

The Russian government still holds 82.8% of the shares in the company. The Sovcomflot IPO was supported by global bookrunners and coordinators, VTB Capital, Citi, Sberbank, JP Morgan and Bank of America. Russian sources stated that the shares were purchased by retail investors with the state Russian Direct Investment Fund (RDIF), Russia’s sovereign wealth fund.

Russian Direct Investment Fund CEO Kirill Dmitriev stated that main partners have come from leading sovereign wealth funds in the Middle East and Asia. Saudi Public Investment Fund, ADIA, QIA and others all are working with RDIF. Sovcomflot wants to expand in the key areas of sea energy transportation and seismic exploration. It will also help serve existing Russian and international energy projects more efficiently and participate in the development of new routes, including through the Northern Sea Route and the Arctic zone of the Russian Federation.

The above painted picture however is more opaque than shown in media. Arab SWFs are increasingly being tasked to fill in the financial gaps in their domestic markets, as oil and gas revenues of most Arab petrostates are dwindling. With COVID-19 continuing, global oil and gas demand destruction still high, and future prices still under extreme pressure, government revenues are not sufficient to cover budget deficits.

As has been shown in Saudi Arabia, the call on Aramco to provide additional cash, is growing, which is not different from the UAE, Bahrain, Kuwait and Qatar. The latter is even hit twice, as its major LNG projects and possible liquefaction expansion plans are facing a major global gas glut forcing prices to historically low levels. Dwindling Petrodollars are a fact of life for the coming years. The latter situation already is showing its ugly face in the Arab financial sectors too. Instability in the banking and financial markets in the region are increasing, as was reported also by ratings major S&P, in a recent report.

The latter stated that risks in the banking sector including reduced profitability as “the pandemic and drop in oil prices could mark the start of a new era” are continuing. The report indicated that “rated banks in the GCC face an uphill struggle in the next 18 months due to the protracted nature of the economic recovery and the expected gradual withdrawal of regulatory forbearance measures”. The Samba-NCB merger in Saudi Arabia is one of the outcomes already.

The latter ripples will for sure put a damper on the attractivity of Arab SWFs too. If the financials of these sovereign wealth giants are depressed further, oil-gas and construction or infrastructure projects in the region will feel the impact. Lower financial liquidity could impact possible future projects of Aramco, ADNOC, NOGA, QP or KOC, leading to a possible scenario as now is being shown by IOCs such as Shell, BP and Equinor. Less financial strength of Arab oil companies will not have a ripple effect on oil production and prices, but will be a Tsunami of unknown order.

Middle East Sovereign Wealth Fund Direct Transactions Comprise Larger Portion of Investments

Data: (SWFI Asset Owner Terminal)

Filter: Sovereign Wealth Funds. Amount Min: US$ 10,000,000. Type: Deal, New Security Issue, Open Market. No fund commitments.

Direct Sovereign Wealth Fund Transactions – Middle East and Asian SWFs Transaction Amount as a Percent of All SWF Transaction Amount

Year Gulf SWF Transactions / All SWF Transactions Asian SWF Transactions / All SWF Transactions
2020* 42.32% 22.09%
2019 26.98% 38.65%
2018 22.59% 49.12%
2017 15.64% 38.40%
2016 19.27% 36.34%
2015 18.19% 69.01%
2014 22.46% 46.24%
2013 13.13% 23.57%
2012 26.87% 46.89%
2011 33.49% 38.93%
2010 33.43% 41.12%
2009 42.94% 37.17%
2008 38.60% 47.98%

Forget Peak Oil Demand, Supply Crisis Could be Hitting First

In today’s IEA’s annual World Energy Outlook 2020 report, the OECD energy watchdog states that it doesn’t see a peak oil demand before 2040, only a possible oil demand flattening. The energy agency repeats that oil demand is effected by COVID, but all scenarios show that oil demand has not peaked yet. The energy agency contradicts here the views currently being proponed by BP and others that oil demand has peaked already. The report bluntly states that after recovering from the “exceptional ferocity” of the COVID-19 crisis, world oil demand will rise from 97.9 million bpd in 2019 to 104.1 million bpd in 2040.

Even that the agency acknowledges that demand has been hit and is lagging behind 2019 levels, overall demand will increase, only the increase will be slightly slower than expected. The Paris-based agency, financed by the OECD governments, and lately known as a main proponent of energy transition and renewables, expects that a slower increase of oil demand the coming years will be caused by clean transport policies and surging renewable energy. At the same time the IEA also reiterates that demand for petrochemicals and global growth of long-distance transport will be leading to a net increase of oil demand until 2040.

It needs to be reiterated that several major factors are very unsure that could have a major impact on global oil demand growth. The current assessments are all taking into account a wide range of proposed and/or signed energy transition and net-zero emission government policies.

These will have an impact if fully implemented by all. Looking at the current situation, especially due to COVID-related economic issues, renewable and emission reduction policies could however become sidelined, delayed or put on ice. The need for a revamp of the global economies is clear, but choices will be made by respective constituencies without full focus on climate change and renewables.

At the same time, the major future driver for oil and gas demand will be policies implemented by emerging markets. China, India and Middle Eastern countries will become much more important than is currently taken into account in several scenarios. A post-COVID economic planning will have to make choices on where to invest and how to progress. Renewables and climate-related investments could be too expensive to materialize.

Even within the OECD countries itself, high-flying plans such as the EU Green Deal or Net-Zero policies of major industries will have to tackle the call for a stable economic recovery from citizens (voters). The IEA, supported by a report of OPEC several days ago, expects that due to a post-Corona global economic rebound oil demand will be pushed back soon to pre-crisis levels of close to 100 million bpd.

The media will be focusing today largely on the peak oil demand issues, as this is being pushed forward. The discussion however seems to forget that global oil demand is very flexible, and expected to recover quickly, but oil supply is heading towards a crisis. If demand for oil is recovering, the market will be soon facing supply issues.

The latter not due to geopolitical risks, chokepoint closures or a Greek-Turkish war, but simply by a lack of new oil projects being started and hitting the market to counter demand recovery and the production decline of existing production fields. Without more attention for hard-needed investments influx in upstream projects worldwide, markets could be facing a slow but steady decline in supply.

The ongoing onslaught on IOCs and independents by activist shareholders and institutional investors to head for a Net-Zero emission production or even leaving oil and gas totally is resulting in a hidden disaster for the global economy. Demand is going to recover, levels will be reaching at least 5-10 million bpd above 2019 levels by 2030, possibly hitting 115-120 million bpd by 2040. Between 2020-2030 latter extra volumes needed is twice the Saudi Al Ghawar field production.

Where most analysis in the media really goes wrong is that it only looks at demand increase. The main issue at present to deal with is to assess the normal decline of producing fields globally. If taking a very conservative approach of 7% decline per year, we are looking at extra production to be found of 6-7 million bpd to counter yearly decline overall. Putting this in place for the period 2020-2025 we are talking about new production to come onstream of 25-30 million bpd at least.

Without investing in existing and future production, oil storage volumes worldwide will crash, showing empty barrels or tanks very soon. By repeating peak oil demand scenarios and reports, the media and financial analysts are creating a lack of urgency that will bite the hands it feeds. Maybe the IEA assessments will need to some new rational analysis than we have seen before.

For a look at all of today’s economic events, check out our economic calendar.

Financial Roller-Coaster Ride Independents to Force Consolidation Increase

At the same time that British independent Premier Oil and Norwegian equity rival Chrysaor are agreeing to a merger, wiping out billions of shareholder debts, Irish listed independent Tullow shocks the market with a dual warning about lower cash earnings and a harsh debt-cutting plan. The Irish independent, mainly focusing on African oil and gas plays, stated that it will announce plans in November to lower its $3billion (€2.55 billion) net debt pile amid depressed oil prices.

Last month Tullow already gave a profit warning, indicating that it faces a potential cash shortfall if no action is taken. More details are to be expected on November 25, when Tullow is holding a so-called capital markets day (CMD). On September 9, the company stated that it has made an $1.3 billion loss for H12020, mainly driven by asset write-downs. The new statements are now fuelling doubts about the future of the company, supporting more assets to be sold and well as possible new refinancing discussions.

With its new CEO Rahul Dhir the company is heading for a perfect storm it seems, as current financial markets are not anymore in love with hydrocarbon based companies. Some light is still there, as the company also revealed that it has passed a biannual test of its liquidity projections by its group of lenders behind a $1.8 billion reserve-based lending (RBL) facility and maintained $500 million of liquidity headroom as of the start of October.

The coming months however the internal and external developments are not very promising. On April 2022 the company will have be able to repay around $650 million of senior bonds, which looking at present financials could lead to a “liquidity shortfall”.

The above painted situation is also being worsened by the fact that Tullow Oil shares have lost more than 90% of their value in the last 12 months. A combination of new management, asset write downs, lower oil prices and less than positive exploration adventures, have been causing a share price crash. Analysts are worried that the future could be in doubt. Even that the market still expects that Tullow Oil could receive around $500 million by the end of 2020 from the agreed sale of Ugandan assets, there are still major hurdles on the road. Not only is the sale of part of Tullow’s onshore Kenyan fields under review, the current market situation could even lead to a renegotiation process of the sales.

Tullow’s news stands in the shadow of another surprise move, this time with a focus on the North Sea arena. British oil independent Premier Oil has agreed to merge with a private equity rival Chrysaor. The deal will not only create the North Sea’s biggest oil and gas producer but almost wiping out current shareholders. The so-called merger is in reality a take-over by Chrysaor, wiping out £2.3billion debt mountain and puts new bosses in charge. The deal will keep Premier Oil listed in London, but with Chrysaor holding 77% of the stakes in the new company.

The deal is going to hurt the investors of Premier Oil hard, as creditors stand to get £950million in cash and 10.6 per cent of the new business, existing Premier Oil shareholders will be left with just 5 per cent. The market is reacting positively, showing shares to climb extremely. With a total production volume of 250,000 bpd of oil and gas, the company is going to be the largest producer on the North Sea.

Linda Cook, the boss of Chrysaor backer Harbour Energy and a former Shell executive, will be the first woman chief executive of a major listed UK energy company. Premier Oil also holds assets in Asia and Latin America. The main reason for the so-called merger has been the high debt levels of Premier Oil, which have now been removed. Still, doubts exist about the future of the new entity.

Even that Chrysaor, which is backed by private equity firms Harbour and EIG, is a major North Sea producer, due to acquiring British fields from Shell and Conoco Phillips, to integrate both will be not easy. At the same time, the focus assets area is not an easy one and financially challenging. Current oil and gas prices are not showing enough upward potential to be utterly optimistic. North Sea production is a high-cost area, as also is being shown by oil majors such as Equinor.

The coming months more mergers, bankruptcies and hostile take-overs are to be expected. The current high-profile role of US-EU based investors could however be a short-lived phenomenon. It will be more rational and attractive to see when Asian and Arab institutionals and sovereign wealth funds will enter the market in full force.

Financial activism is a Western phenomenon, realism is Asia-MENA’s forte. Share-prices are historically low, oil and gas prices weak, financial markets closed for hydrocarbons. It will be High Noon but this time with some other Cowboys. With some developments wiping out the value of existing shareholders, another reason for conventional investors to leave the market is emerging!

For a look at all of today’s economic events, check out our economic calendar.

Oil Market Optimism to be Hit by Q2 Financials IOCs?

The American Petroleum Institute (API) report yesterday evening a 6.83 million-barrels draw in crude oil inventories for the week ending July 24, in stark contrast to market expectations of a 450, 000-barrel rise. The verdict however is still out, as today more definitive US stocks data is due for release by the Energy Information Administration (EIA), the oil advisory of the US Department of Energy. Financials are again supporting the mantra that they see crude oil prices paring gains with continued growth concerns capping further upsides at current levels.

Still, as IG market strategist Pan Jingyi stated, “the surprise draw in crude oil inventories according to the API report had played a part in supporting prices overnight, though WTI can be seen staying relatively more cautious with a buildup in official EIA crude inventory expected on Wednesday”. Axicorp’s chief global analyst Stephen Innes is even more optimistic, expecting that “the enormity of the inventory draw should be sufficient to hold the bears at bay and temporarily alleviate some concerns about ongoing demand distress”.

Still, even that bulls are making headlines, the bears are just quietly waiting for their chance to surprise. The latter is based on the growing concerns about COVID-19 2nd waves in major consumer markets, not only in USA, but increasingly in the EU and UK markets. An unexpected growth is being reported of Corona infections, leading to a long list of regions in the OECD being put on Orange (only necessary travel) or even in lockdown again. Asian countries, especially India and Japan are also looking at the abyss.

For the demand of oil, the current re-emergence of lockdowns and renewed travel restrictions will have a direct impact on pure speculative optimism of demand growth. The summer season, known to be the US driving season with high transport fuel demand, is also in Europe a major market. Lower tourism, especially by plane or cars, will put demand levels back to way below average. At the same time, tourism spending in Mediterranean countries or France and Germany will be hit, putting current fragile economic growth (from Corona-levels) at risk of already on ice.

By looking at the surprise positive figures reported by China and some minor other countries can not or shouldn’t deflect attention for a possible 2nd wave of Corona and a still looming unemployment wave of unknown proportions. Demand is currently artificially pushed up by stimulus packages, while financial facts on the ground are extremely black. The long list of lay-offs in Europe and bankruptcies is staggering. In the coming months, most national stimulus packages in Europe will end, some literally after the summer season. A possible Indian summer scenario for economic figures is clearly visible but people seem to be only charmed by the red and orange coloring.

The optimism about the widely published EU Corona Fund packages, set at EUR750 billion, is also based on shaky grounds. Not only is the implementation still an issue, as the European Parliament is now having the ball in its corner, but possible recipients (Italy, Spain, Greece) have not even yet a strategy proposal how to use the available funding. The current situation looks to be a hot air balloon, that without structural economic changes in the Southern European Area no funds are going to be disbursed at all.

Still, oil producers, such as OPEC or US shale producers, are seeing light at the end of the tunnel. Reports are tumbling over each other showing demand increases to continue, and a supply-demand crisis appearing. Increased production by OPEC and others however more likely will result in a renewed oil glut in the market for H2 2020. Officially, global crude output is set to increase next month as OPEC+ sticks with its schedule of tapering coordinated production cuts from 9.7 million b/d to 7.7 million b/d from August 1.

The next couple of the oil market could be in a shock again. Norway’s Equinor will report second-quarter earnings on Friday, with Austria’s OMV, Italy’s Eni, France’s Total and Anglo-Dutch company Shell set to report next week. The U.K.’s BP will unveil their quarterly results on August 4. US oils also will report. ConocoPhillips will report earnings on July 30, with Exxon Mobil and Chevron expected to follow on July 31.

The current oil market’s positive vibes will most probably be crushed and mangled by historically red financial figures. The reaction could be violent if realism gets back to the market. The world’s largest oil, Saudi Aramco, is expected to also report its financials on August 9. No relief however is even to be expected from the King of Oil, as Aramco’s revenues and profit margins are also hit very hard.

If no miracle happens, the oil market is in for a negative run for the next 5-6 months. If US shale and OPEC+ compliance is also lowered, aka production increases, more oil will be hitting the market than financial analysts and hedge-funds are taking into account. Supply-demand is not yet in an equilibrium, while external indicators are negative. IOC financial reporting the next days will give an indication of the last couple of months, but should also be assessed as a pre-cursor for more pain. If big oil fails to be showing positive figures, leading to investment cuts, smaller ones, even oil producing countries, could be hitting a rock very soon. Lower oil prices due to increased production is not what the future needs.

East Med Acquisitions on the Uptake? US Major Enters Fray by Acquiring Noble Energy

In a statement made by Chevron it stated that it has entered into a definitive agreement with Noble Energy, to acquire all of the outstanding shares of Noble Energy in an all-stock transaction valued at $5 billion.

The total value of the deal is slated to be US$13 billion. The main underlying reason for the acquisition by Chevron is that it will provide it with additional low-cost, proved reserves and attractive undeveloped resources that will enhance an already advantaged upstream portfolio. Chevron reiterates that the Noble Energy acquisition will be bring low-capital, cash-generating offshore assets in Israel. Chevron also looks at Noble Energy to expand is in the leading U.S. unconventional position with de-risked acreage in the DJ Basin and 92,000 largely contiguous and adjacent acres in the Permian Basin.

Chevron CEO Michael Wirth stated that the Noble Energy acquisition is “a cost-effective opportunity for the company to acquire additional proved reserves and resources. Noble Energy’s multi-asset, high-quality portfolio will enhance geographic diversity, increase capital flexibility, and improve our ability to generate strong cash flow. Chevron also reiterated that “the new combination is expected to unlock value for shareholders, generating anticipated annual run-rate cost synergies of approximately $300 million before tax, and it is expected to be accretive to free cash flow, earnings, and book returns one year after close”.

Noble Energy assets:

U.S. onshore

DJ Basin – New unconventional position with competitive returns that can be further developed leveraging Chevron’s proven factory-model approach.

Permian Basin – Complementary acreage that enhances Chevron’s strong position in the Delaware Basin.

Other ­– An integrated midstream business and an established position in the Eagle Ford.


Israel – Large-scale, producing Eastern Mediterranean position that diversifies Chevron’s portfolio and is expected to generate strong returns and cash flow with low capital requirements.

West Africa – Strong position in Equatorial Guinea with further growth opportunities.

The Optimism shown however should be assessed still looking at the ongoing East Med and global oil and gas markets developments. Last week Noble reported that COVID has hit its operations and revenues hard. Due to a 10% volume drop and weakness in oil prices, with WTI averaging less than $28 per barrel in Q2-2020, Noble Energy’s earnings will be lower. Some of the US onshore production is being restored, concentrating low-cost DJ Basins wells online while gas production from offshore Israel will also climb.

Still, Noble Energy reiterated that due to COVID and energy markets slump earnings will fall significantly. But its outlook is now looking better. Taking into account that its US onshore production dropped by almost 8% to 248,000 b of oil equivalent per day (-3.4% oil and natural gas Israel -21%). Noble Energy still is optimistic about oil price H2 2020, as it should be significant higher.

For Israeli gas sales volume from the Tamar and Leviathan fields it expects a substantial increase. However, looking at the current Israeli COVID issues and East Med economic recovery, statements made about higher volumes should be questioned. Sales from Tamar and Leviathan to Egypt’s Dolphinus Holdings are expected to be large from this month onwards, based a long-term agreement to supply a total of 3 trillion cubic feet of gas to Dolphinus for 15 years, with supplies starting from January 2020, ramping up in July 2020, and increasing further in July 2022.

This could again be very optimistic when assessing the Israeli economic situation, Egypt’s struggling economy and a lack of interest for Egyptian LNG on the global markets at present. Some major setback should be expected. Other new projects, such as its Alen Gas Monetization project, which is slated to start up in early-2021, in Equatorial Guinea, could also be facing headwinds.

Chevron is taking significant risk at present. The combination of onshore US shale and East Med offshore gas, before COVID-19, would have been very promising and commercially attractive. At present, especially at the global gas market, and East Med especially, too many risks are out there to become very comfortable. Not only COVID-19 and economic risks are still there, or even re-emerging, East Med’s geopolitical situation is far from positive. Demand is low, while outright potential geopolitical risks (Turkey, Greece, Cyprus, Egypt-Libya) don’t bode well for optimistic investment strategies.

Chevron’s take-over agreement for Noble Energy is the second East Med linked M&A deal the last week. Today, London-Tel Aviv listed international oil company Energean announced that at its General Meeting (GM) has passed the resolution for the assets of Italian independent Edison. Energean, already holding assets offshore Adriatic, Greece and Israel, announced July 4 the conditional acquisition of Edison E&P for $750 million plus $100 million of contingent consideration. The acquisition of Edison E&P, exclusive of the Algerian assets and Norwegian subsidiary, which was the subject of the above resolution, is expected to be completed later in 2020.


Betting on Offshore Oil and Gas could be Challenging, as Sector Hit by COVID and China Risks

A long list of international offshore drilling operators are reporting negative figures, or are even going out of business. The hey-days of the GOM, North Sea or West Africa are already long over, but even new emerging plays in Brazil, Arctic, Middle East or East Africa are showing worrying developments.

Investors and oil companies are looking at their portfolio investments and offshore drilling is not a favorite right now. This week several reports were published by leading offshore rig data experts, such as Rystad Energy and Westwood, indicating a major crisis emerging, while the light at the end of the tunnel is not yet seen.

Globally, offshore drilling activity continued to slip in week 29 of 2020, with the number of jackup rigs dropping by one to 322 and floaters by one to 105, according to energy analyst Westwood Global Energy Group.

Rystad in its update of the oil and gas drilling market stated that the sector will be hitting a 20-year low. Based on its own research, the consultants stated that global drilling will drop 23% from 71,946 wells onshore and offshore in 2019 to 55,350 this year.

The latter decline is based on current economic figures, but already “the lowest since at least the beginning of the century”. For 2021 a more optimistic figures of 61,000 wells is expected, but this will depend on COVID-related recovery scenarios worldwide. By 2025, activity levels are expected to increase to more than 68,000 but still well below 2019 levels.

Onshore figures

Onshore figures are dramatic, but some green spots are available if you look deeply. Rystad is still optimistic about Brazil, China and Australia, which will “continue to offer exciting opportunities”, with 20%-40% growth prospects for drilling. Looking however at messages coming out of these countries, optimism could be build on shaky fundamentals.  Rystad also indicated that offshore markets will see “highs and lows” and maintain a “flattish level” over the next five years.

Fitch Ratings

International rating agency Fitch Ratings is very pessimistic about exploration-focused oilfield service (OFS) companies. The rating agency stated that the sector will face the largest demand decline as a result of oil and gas producers cutting their capex and operating expenditure. These developments will be the same for drillers. Both sectors are going to feel the negative impact of cuts in oil and gas producers’ capital programs, where exploration investment cuts are expected to be a reduction of 20%-30% in 2020 yoy.

Fitch reported also OFS companies serving projects with high full-cycle costs, such as deep-water offshore assets or shale basins, will also be affected. North America-focused Nabors (B-/Rating Watch Negative) and Precision Drilling (B+/Negative) are exposed to the volatile spending patterns of US shale producers.

OFS diversified companies, exposed to the entire life-cycle of a well, are more resilient. Fitch is reasonably positive about ADES International (B+/Stable), currently servicing  customers in Saudi Arabia and Kuwait, while Eurasia Drilling (BB+/Stable) is focused on Russia. Even that they both will be effected by OPEC+ production cuts, their overall performance will continue as their producing areas are lower-cost geographies.

The current overall global downturn will be for an extended period of time, as the OFS market will experience a recovery lag of four to six quarters. Even if oil and gas prices will recover slowly, oil and gas producers, the main clients, will be very cautious about increasing exploration and drilling activity. Even if utilization rates for rigs and vessels will improve to 2019 levels in 2021, day rates and need for new builds will be lagging behind 1-1.5 years at the least.

At the same time, most offshore drillers will be faced very soon by a combination of threats. Most OFS and drilling companies have been stacking an increased amount of assets. The latter is seen as cost saving measure. Still they are facing lower revenues and cash flows the next coming years. This combination is maybe for some even very toxic.

Fitch warns that OFS companies with significant debt maturities up to 2022 will face refinancing challenges. A combination of low operation cash flow generation and lacking access to capital markets could lead to a potential shake out.  Ongoing crisis measures in the sector is also not promising, as shedding workforce or closing production facilities by shipyards worldwide decreases flexibility to react to changing markets, and puts several blockades already in place in time of recovery.  Sembcorp Marine or Noble Drilling are prime examples of the current crisis situation.

Offshore drilling market

The offshore drilling market could even be facing another major threat, if the news coming out of India is right. In light of the India-China military and geopolitical rivalry, offshore drilling companies and shipyards are now in the crosshairs of the Indian officials.

Potential direct links between international drillers and the Chinese government could be a future threat to the sector. At least in India after that the Indian government has started an assessment of the position of Chinese government-linked investors in Dubai-based Shelf Drilling. The latter offshore driller holds almost 30 per cent market share in India’s shallow water oil drilling market, in terms of drilling rigs on charter.

The issue has come on the table due to the fact that the Indian government and its agencies have restricted, or even banned, the use of Chinese products and services in the country, following the recent flare-up along the border. Shell Drilling, listed on the Oslo Stock Exchange, and a major largest pure-play jack-up oil drilling rig contractor, works in India mostly for state-owned ONGC Ltd, India’s biggest explorer of oil and gas.

News that China Merchants and Great Wall Ocean Strategy & Technology Fund (China Merchants), a $1-billion marine industry-focused fund sponsored by China Merchants Group (CMG), is the largest shareholder of Shelf Drilling with a 19.7 per cent stake, is a possible major security issue.

China Merchants is a $1 trillion diversified group fully owned by the Chinese state. The jack-up rigs were constructed at China Merchants Heavy Industries (CMHI), the world’s largest CJ jack-up drilling rig manufacturer. Shelf Drilling operates eight rigs in India of which seven are currently on contract with ONGC out of the 25 jack-up rigs chartered by ONGC. All seven are deployed in the hyper-sensitive Arabian Sea region. Several of these are located near Mumbai, the financial capital of India.

According to Indian government officials, the presence of the Chinese government in the “strategic and sensitive offshore oil drilling sector” has become a matter of concern. Since years, Chinese companies linked to the Beijing government are barred from bidding for Indian port construction and operation contracts mainly due to the sour political relations between the two sides. India is also discussing to classify exploration and drilling of oil and gas as a strategically sensitive sector (both economically and for national security), and accordingly provide protection and oversight by restricting participation in the sector to entities.

Taking the Indian developments to a more global power play, the Indian views could be taken over soon by others too. An emerging anti-China position in the EU and USA could result the coming months in a focus on Chinese maritime sector investments and the stranglehold some of these Chinese parties have. Offshore oil and gas projects are until now not regarded very sensitive, but looking at the current production regions and maritime position, an opposite position could be supported very soon.

If these issues are going to play a role, the OFS, and especially offshore rig markets, will be heading for a major restructuring. Blocking or restraining Chinese government interference and power play in oil and gas developments are likely to see some support in Washington, Brussels and India. Domestic support for the struggling maritime sectors in these regions is already available. For offshore vessel or jackup companies it looks to be time of reassessing their options. Better to be prepared than to be confronted by political and security facts without a warning.

For all non-Chinese parties in offshore drilling it will be a necessity to keep an eye on the Indian developments, while addressing other options. COVID already is a Black Swan of unknown importance. Threats from Chinese interference could be having major impact on the valuations of them all.

Did COVID Kill LNG Natural Gas Dreams?

The current minimum amount of positive figures or green shoots are swiftly removed by new depressing figures of crude oil stock volumes in USA or lower estimates of OECD and MENA region GDP figures for 2020. The total impact is still unclear, but one thing has become obvious, energy demand and supply is under pressure, but not yet balancing out the right way.

At present, the main focus when talking about energy demand destruction is on crude oil and its products. Clearly, oil is struggling, but its sister, natural gas is totally on life-support.

The Golden Age of Gas, as presented by the International Energy Agency at the beginning of the 21st Century, seems to be a very short Age, as we are now entering a possible Ice Age of Gas. Demand worldwide is fledgling, main consumer markets are showing no increased demand figures, while the future demand is in doubt.

With being promoted worldwide as the energy transition fuel, natural gas and LNG have been promoted exponentially. The world’s leading oil and gas companies, such as Shell, ENI, Total, in cooperation with national oils QP, ADNOC, Gazprom and others, all have made the ‘rational’ choice to invest in the natural gas E&P sectors from the end of the 1990s onwards.

Success seemed inevitable, as natural gas or LNG was the preferred fuel of choice.

Nobody expected however a main competitor on the horizon, US shale gas. The latter’s revolutionary capture of the global market destabilized the projected gas market fundamentals and brought price levels down substantially. Demand still grew, as prices were very competitive, but supply continued to outpace it.

Still, investments in on- and offshore gas projects kept pouring in, as seen in East Med, offshore Nile Delta Egypt, Australia and Qatar. The global gas market shook on its fundamentals. The emergence of COVID-19 however could be a major shock to its total future. At present, a long list of gas producers is filing for bankruptcy, such as US company Chesapeake and more than 200 US shale producers, or are considering a total reassessment of ongoing and future investment projects.

The Golden Age of Gas has become an Ice Age of Gas.

The latter is for sure the case for LNG projects worldwide, that are not only confronted by COVID-19 but a total out of touch with the market supply volume the coming years. Without COVID-19 the market already would have been hitting a major slump due to overproduction and sluggish demand growth.

New projected production volumes, especially in East Med, Mozambique, Brazil, Australia and even in the GCC (Qatar, Saudi Arabia, Abu Dhabi), are going to be very hard to sell at commercial price levels. Some even expect that if no real measures are being taken, and production expansion continues, major LNG and gas producers could be facing the same dark scenarios as WTI in April. Negative prices are not out of reach, if the market refuses to go to a restructuring very soon.

Non-American gas producers should understand that with oil prices hovering around $40 per barrel Brent additional shale oil and gas production will come again online. Higher price settings for crude oil and NGLs will boost US shale gas production for sure. Without increased US domestic demand the only way is out, entering the global markets.

Future investment projects in Qatar, Saudi Arabia and East Med, are facing enormous challenges. Qatar’s LNG strategy has been working for decades, proponing the Peninsula into the Ivy League of gas producers, but now could become a boomerang full of pain. The end to the Qatari production moratorium, in principle a wise choice, however has come at the wrong time. Demand for these additional volumes doesn’t exist.

The multibillion investments presented by Doha in E&P and additional LNG carriers could be a major blow to its commercial existence. The same is the case for the high-profile East Med gas adventures of Egypt, Israel and Cyprus. The continuing exploration success stories presented by Italy’s ENI, French major Total and others in Egypt or Cyprus have become a new version of a Pyrrhic victory. Giant reserves are being found, LNG production is available, but customers are hiding or retreating even. Domestic regional demand will not be enough to counter supply, while European customers can receive LNG volumes at lower prices.

This time success or a Golden Age scenario has turned into a major black hole. Investments are made, commitments are there, reserves proven but demand is down, due to a virus. Not even Asia’s gigantic markets are able to take advantage, as their own situation is also dire.

Some analysts warned already in the 1990s that the high profile transition from oil to gas producer, as stated by Shell, BP and others, could backfire. Current financials are not yet showing it in full, but profit margins of the main gas producing oil majors will be lower for a longer time. No option anymore to counter lower gas prices by higher oil margins, as they have lost a pivotal oil market position since years.

National oils, especially QP, ADNOC or its counterparts Gazprom and others, are in the same boat. Gazprom reported, as shown by Russia’s Federal Customs Service (FCS), that it being hit by lower export gas prices and volumes. FCS data show that the company’s gas export revenues in the first five months of the year plunged 52.6% to $9.7 billion, while shipments declined 23% to 73 billion cubic meters (Bcm). May’s export revenues came to $1.1 billion – which is 15% lower than April. Physical exports were down 1.7% m-o-m to 11.9 Bcm. When compared to 2019 figures, Gazprom’s May 2020’s export revenues were 61% lower and volumes were 24% down.

Going for the well-known transition fuel natural gas is currently putting these companies on a rowing boat and not anymore a speedboat. Profitability of the natural gas upstream and downstream sector has always been low, especially when looking at the crude oil hey-days. Investors now also will start to reassess their involvement.

Lower ROIs, a bleaker future than presented and a still continuing immense gas supply glut, is not something investors are happy about. Seems that IOCs and NOCs are now looking at a home-made Sword of Damocles. COVID-19 even can make it worse if major economic policies, such as the EU’s Green Deal, are going to be implemented earlier. Without even the option of being the energy transition’s fuel of choice, natural gas could be put on a slow burner for the next decade. The current bearish gas market, due to prices averaging under $2/MMBtu in 2020, no light is at the end of the tunnel.

LNG’s overall situation is even worrying, as costs are higher than commercials are offering at present.

Worldwide LNG projects are also partly doomed, as LNG price settings are either putting projects on ice or major delays of FID is to expected. Global Energy Monitor reports in its Gas Bubble 2020 report that LNG projects that are still within the pre-construction phase have experienced a “widespread pullback, including the quiet abandonment of a large number of projects.” The same report reiterated that for the period between 2014 and 2020, the failure rate for proposed LNG export terminal projects is 61%.

It also identified 29 LNG export terminal projects that have since 2014 either been delayed, cancelled, abandoned or are facing substantial challenges. The report also states that in total, companies had announced plans to build $758 billion of projects that are as yet in the pre-construction phase. But with 20 projects now in jeopardy, including nine in the United States, that planned capital outlay could be reduced by $292 billion, or 38%, if the delays persist indefinitely.

Shell Impairments Support Bearish Market

In contrast to the current optimism in the MSM about oil prices, increased demand and a possible return of global economic growth, the Dutch IOC put a huge damper on the latter. As already stated before current optimism in the market is not based on fundamentals but mainly on a perceived optimism at institutional investors and banks. The current upsurge in oil prices is still unfounded, as now also Shell reiterates by taking an impairment of between $15-22 billion for 2020.

With a slew of bad figures, the IOC is in line with British oil major BP’s actions the last weeks. The impact of the COVID-19 pandemic and its disastrous effects on energy demand and economic growth is slowly becoming clear some parties. Big Oil has been hit severely in Q2 2020, more than analysts have agreed upon before. As Shell stated none of its business groups has been left unscathed.

Not only the results in Q2 2020 has been dramatic, the company, as also stated by BP and others, but COVID and the unexpected oil and gas demand destruction will also have a long-term effect on commodity prices. The market slowly starts to realize that not only crude oil and natural gas/LNG has been hit, downstream at the same time has been hit too. The total write-down of $15-22 billion is dramatic, but maybe it will not even be the full amount in the coming years.

As indicated before, oil prices are hit and will be depressed for the long term. For 2020 higher price ranges almost are out of reach, as the drop in demand for crude oil and gas is still large. Some green leaves have been shown in Asia and some European countries, but the latter is still very weak. Re-emergence of COVID hotspots in EU and Asia, combined with continuing dramatic developments in the USA, Latin-America and Africa, are no real basis for higher price settings.

At the same time, the current crude oil storage volumes are still at historic high levels, leaving no real room for a surge in prices, even if demand would increase substantially. In its update, Shell reiterated that all positive signs in the market are very fragile.

The Dutch major indicated that its own oil-product sales volumes are expected to be between 3.5 million to 4.5 million bpd in Q2 2020, which is a dramatic 3.1-2.1 million bpd drop from the same period last year.

Market analysts should however look not only at the overall production or delivery figures but at the company’s assessments of oil prices in the coming years. For 2020, Shell, as BP, is much less bullish than financial institutions such as Bank of America (BofA)or others. BofA’s Global Research team stated last week that it lifts its oil price forecast for this year and next as demand recovers from coronavirus-linked shutdowns, the OPEC+ output cut deal curtails supply, and producers slash capital expenditure.

The bank expected Brent crude oil averaging $43.70 per barrel in 2020, up from a previous estimate of $37. In 2021 and 2022, the bank forecasts average prices of $50 and $55 a barrel respectively. BofA also forecast that “a pattern of falling inventories across most regions should emerge as we move into H2 2020. This optimism is clearly out of reach with real fundamentals on the ground. Norwegian consultancy Rystad Energy, however, has warned that the downside risk in oil markets is still very much alive. In its report Shell stated that it expects a Brent oil price of $35 for 2020, reaching $40 per barrel in 2021, $50 2022 and 46$ in 2023. Even that the price expectations are based on long term 2020 real terms, even these figures look for 2020-2021 still a bit optimistic.

Taking into account Shell (and BP) reporting, the short-term looks bleak. At least 2020 in plain terms looks like a possible write-off. If optimism on share markets is also hit by reality, a new negative spiral could hit markets. When only looking at fundamentals, combined with increased economic and geopolitical unrest globally, there is no real justification for oil market optimism in 2020. The next 6 months will be very volatile. Optimism should instead be pointed towards 2021. The price upward potential for 2021 is clearly available.

Low investments upstream, combined with large-scale shutdowns and bankruptcies are prime factors to take into account. Even if demand stays subdued, the market could change from a demand-driven to a supply constraint market. An average crude oil price (Brent) of above $40 per barrel is wishful thinking in 2020. 2021 could be bullish, pushing the bears back into hibernation. When looking at share prices, 2020 is however already interesting, if you have a long-term view. Current PE levels are still reasonable, but will most probably become hot end of 2020 – beginning 2021.

“Never Sell Shell” Adage Goes into Dustbin, IOC Future in Doubt?

With a surprise statement to the financial world, the Dutch-British oil giant has changed its dividend policy with a bang, removing part of the attraction to institutional investors. For the first time since 1945 Shell has cut its first-quarter payout by two-thirds amid coronavirus crisis.

Shell cuts dividend for first time since WW2

The FTSE largest dividend payer has decided to cut its dividend due to the collapse of global oil prices due to the coronavirus pandemic. At present financial centers are reeling from the news, as the Shell dividend was a major basis to hold the company’s shares for thousands of retail investors and pension funds. In a reaction Shell’s CEO Ben van Beurden, stated that the company would take “prudent steps” to protect its financial resilience “under extremely challenging conditions” caused by Covid-19.

One of the main underlying issues for the dramatic decision by Shell are the dramatic financial figures reported for Q1 2020. In its financial statement the IOC reported that its profits in Q1 tumbled by 46% to $2.9bn (£2.3bn), in comparison to $5.3bn in Q1 2019. Van Beurden reiterated that the dividend cut is based on the need to address the continued deterioration in the macroeconomic outlook and the significant mid- and long-term uncertainty.

He also said that it was meant to bolster the company’s resilience, underpin the strength of Shell’s balance sheet and support the long-term value creation. The company still will pay out a total dividend of $3.5bn for the quarter to its shareholders.

Shell’s move has come at a difficult time

As the financial world is fully focusing on the impact of Corona, the global lockdown and expected negative economic growth for 2020. At the same time, Shell’s competitors, such as British oil giant BP, are not yet deciding to cut their dividend. Bernard Looney, BP’s CEO, stated this week that the board had decided not to cut its dividend for the first quarter despite plunging to a loss. The BP executive however has indicated that there could be dividend cuts coming if the current situation deteriorates further.

Shell’s decision will have shocked its shareholders, especially the retail investors, but also pension funds, as most of them will have been counting on the historical payouts for their total investment returns. The fact that Shell has decided to go this way is a real sign that the privately owned oil and gas sector is fighting for its survival.

Whatever optimism is still there in the market, the last 24 hours partly supported by better than expected storage figures in the USA, will disappear for sure when investors and analysts start to understand that the situation is very dire. Large IOCs and independents will be able to survive the current onslaught, due to their balance sheets and cash available, but the future of others, especially high-cost producers, will be very dark.

The Shell move is not a one-time issue, it is a sign that investors are entering a new world. Without the attractiveness of high dividend pay-outs, the overall attractiveness is becoming bleak. If the Shell example is going to be followed by others, institutional investors and retail investors will for sure have a look at their total portfolio in oil and gas, and most probably will head to other sectors based on ROIs and other issues.

Lower investment attractiveness is a real threat, as future investment strategies of IOCs and Independents will depend on the views held in the market. If returns are threatened, and a sacrosanct Shell dividend is removed, financing costs for most will increase substantially.

Another still undervalued issue of most IOCs and Independents could now also for once emerge on the desks of analysts. Most privately owned oil and gas companies have no real reserve potential to build a future on. If there is no change in attitude at the HQs of the likes of Shell, BP, ExxonMobil or Statoil, these companies are going to fight an uphill battle they will lose.

With an average of 3-5 years of reserves/production ratios, most are in dire need to find or acquire more reserves to prolong their life. Cutting dividends is dramatic, blood is on the wall in investment land, but if Shell and others are not going to invest in upstream assets right now, as prices are attractive, more blood is going to be spilled.

OPEC and G20 Meeting Outcome Increases Instability in the Oil Market

The outcome of the G20-OPEC+ oil production cut discussion is very disappointing. The agreed-upon 10+ million bpd production cut is based on semantics and not on facts able to hold in the market.

After a long OPEC+ meeting, including a long list of non-OPEC producers, a disputable outcome was presented, with a Mexican standoff threatening even a full agreement until now. The position taken by minor oil producer Mexico has ransomed the discussion the last days.

Media coverage of the hardline position taken by Mexico, refusing to cut production as requested, and the meddling of Washington in the matter, has increased the fog in the oil market. OPEC leader Saudi Arabia’s attempt to quell some of the fears existing in the market that the oil price war between Moscow – Riyadh and Washington is continuing has fallen flat. Even if there will be an agreement in the coming days, to present by a full fanfare of politicians worldwide as a breakthrough, fundamentals didn’t change, and downward pressure on oil prices is to continue.

The last days it has become clear that there is a real power struggle ongoing in oil markets, in which the three main oil producers are heading to a High Noon Scenario and not a Mexican standoff. By putting up a fog of semantics, promising to stabilize the market, but in reality going only back, in the most optimistic scenario, to the scenario of before the OPEC+ price war started, oil markets are in for a nasty surprise.

History has shown that OPEC+ oil production cut compliance has always been a major issue, the only ones keeping to the letter of the agreement have only been Saudi Arabia, UAE, Kuwait and some other GCC producers.

Russia, one of the two pillars under the OPEC+ agreements, has never committed 100% to the agreements. To expect OPEC+ and a long-list of non-OPEC producers to cut the set amounts of the preliminary new agreement is the same as believing in Santa Claus or the Easter Bunny. When you grow up you get disappointed as the latter has been put in place to sweeten and fool kids to comply with targets set by parents.

The same is for the current oil market agreements. Without any doubt, non-OPEC producers are going to fail their commitments. At the same time, OPEC+ is going to be fighting internally to keep their own commitments in place. The market should realize that several main OPEC producers are not even in the agreement, such as Iran, Libya and Venezuela. Any production increase by these parties is not blocked, while the agreement is meant to stabilize markets.

The position of the USA is critical, as OPEC+ has stated before, but the Trump Administration’s standpoint of voluntarily production cuts by its US based producers is non-functional. Without real cuts in US shale, the main culprit behind the current volatile global market, no deal will even survive the next weeks. Washington’s offer to buy US shale volumes for its SPR is only supporting shale, not the market in reality. It is a protectionist government statement with as only target to support the fledgling shale oil production owners. The market should however still see it as additional production to be taken out of the global market in due course.

Overall the whole media circus around the OPEC+ and G20 meetings didn’t change the market at all. Fundamentals are still very negative, as demand destruction continues, hitting levels of more than 20+ million bpd, not being removed by any of the current agreements.

The latter is also not based only on production increases but on Corona Virus related lockdowns and economic growth decline. Until the latter is being removed, no light is at the end of the tunnel. By continuing the survival of some culprits in the current stalemate, US shale and non-OPEC production increases, the market’s oil ship is still heading towards a rock.

By taking out 10+ million bpd, even at January 2020 levels, storage volumes will increase, ending up with a major shakedown in upstream. If there is no storage available, production needs to be shut in. This weekend’s agreements are only delaying the inevitable, production shut-ins and Chapter 11s.

At the same time, the continuation of the oil price war is still a real option. Moscow, Riyadh and Washington are not yet eager to end their market share strategies. The ongoing pressure on Saudi Arabia by Washington and a list of activist US Senators is also going to backfire. The political pressure put on Saudi Crown Prince Mohammed bin Salman by Washington power brokers, even threatening Saudi Arabia of losing its preferential military support status, will not be taken lightly. Russia is quiet in the latter, showing another possible chess move towards MBS, maybe offering to step into the void. The current US pressure is out of touch with reality, threatening a further conflict with Saudi Arabia and possibly UAE and others.

The end of the current Mexican standoff and the signing of an official full agreement will not be a long-term support mechanism. Oil prices the coming days will show a higher volatility even than before. Possible price gains the next days could be wiped away by a deeper analysis of the real issues in the market. The downward potential on oil prices has even increased substantially. Market players’ subdued optimism at present could change into a deep disappointment.

At the same time, OPEC+ and the US/G20 moves have clearly brought to light that the current market cant be managed. The demand destruction is too high, while oil production is not easily able to be removed. Pain for smaller oil producers, independents and minnows will increase to built up, as OPEC and IOCs are not willing to shut down in reality. Prices will increase, current price moves are not realistic. Current oil prices above $20 per barrel will be hit hard. Prices could move to $15-10 per barrel easily. Until the Corona impact is removed, no real positive options are available. Low oil prices will continue, even after Corona, until mid-2021, as storage buildup is mitigating any upward options.

By Dr. Cyril Widdershoven, PhD, Berry Commodities