Not that taut: Oil markets & geopolitical tension

The month of August has brought along a milestone for the Oilholics Synonymous Report, but let’s get going with crude matters for starters as oil markets continue to resist a risk premium driven spike.

The unfolding tragedy in Iraq, Libya’s troubles, Nigerian niggles and the fear of Ebola hitting exploration and production activity in West Africa, are more than enough to provide many paper traders with the pretext to go long and spook us all. Yet, the plentiful supply and stunted OECD demand scenario that’s carried over from last month has made geopolitical tension tolerable. As such its not percolating through to influence market sentiment in any appreciable fashion, bringing about a much needed price correction.

It wasn’t the news of US air strikes on ISIS that drove Brent down to a nine month low this week, rather the cautious mood of paper traders that did it. Among that lot were hedge fund guys n’ gals who burnt their fingers recently on long bets (that backfired spectacularly in July), and resisted going long as soon as news of the latest Iraqi flare-up surfaced, quite unlike last time.

According to ICE data, hedge funds and other money managers reduced net bullish bets on Brent futures to 97,351 contracts in the week to August 5; the lowest on books since February 4. Once bitten, twice shy and you all know why. Brent price is now comfortably within the Oilholic’s predicted price range for 2014.

Away from pricing, the other big news of course is about the megamerger of Kinder Morgan Inc (KMI), Kinder Morgan Energy Partners (KMP) and El Paso Pipeline Partners Operating (EPBO), into one entity. The $71 billion plus complicated acquisition would create the largest oil and gas infrastructure company in the US by some distance and the country’s third-largest corporation in the sector after ExxonMobil and Chevron.

Moody’s, which has suspended its ratings on the companies for the moment, says generally the ratings for KMP and its subsidiaries will be reviewed for downgrade, and the ratings for KMI and EPBO and their subsidiaries will be reviewed for upgrade.

Stuart Miller, Moody's Vice President and Senior Credit Officer, notes: "KMI's large portfolio of high-quality assets generates a stable and predictable level of cash flow which could support a strong investment grade rating. However, because of the high leverage along with a high dividend payout ratio, we expect the new Kinder Morgan to be weakly positioned with an investment grade rating."

Sticking with Moody’s, following Argentina’s default on paper, the agency has unsurprisingly changed its outlook on the country’s major companies from stable to negative. Those affected in the sector include YPF. However, Petrobras Argentina and Pan American Energy Argentina were spared a negative outlook given their subsidiary status and disconnect from headline Argentine sovereign risk.

Switching tack from ratings notes to a Reuters report, a recent one from the newswire noted that the volume of US crude exports to Canada now exceeds the export level of OPEC lightweight Ecuador. While the Oilholic remains unconvinced about US crude joining the global crude supply pool anytime soon, there’s no harm in a bit of legally permitted neighbourly help. Inflows and outflows between the countries even things out; though Canadian oil exports going the other way are, and have always been, higher.

On the subject of reports, here’s the Oilholic’s latest quip on Forbes regarding the demise of commodities trading at investment banks and another one on the crucial subject of furthering gender diversity in the oil and gas business. 

Finally, going back to where one began, it is time to say a big THANK YOU to all you readers out there for your encouragement, criticism, feedback, compliments (as applicable) and the time you make to read this blogger’s thoughts. Though ever grateful, one feels like reiterating the gratitude today as Google Analytics has confirmed that US readers have overtaken the Oilholic's ‘home’ readers as of last month.

It matters as this humble blog has moved from 50 local clicks in December 2009 to 148k global clicks (and counting) this year and its been one great journey. The US, UK and Norway are currently the top three countries in terms of pageviews in that order (see right), followed by China, Germany, Russia, Canada, France, India and Turkey completing the top ten. Traffic also continues to climb from Australia, Brazil, Benelux, Hong Kong, Japan and Ukraine; so onwards and upwards to new frontiers with your continuing support. Keep reading, keep it 'crude'!

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© Gaurav Sharma 2014. Photo: Oil rig, USA © Shell. Graphics: Oilholics Synonymous Report, July 2014 clickstats © Google Analytics

Oh drat! Brits ask what the ‘Frack’!

The Oilholic arrived back home from Texas last week to the sound of fellow Brits discussing ‘fracks’ and figures in favour of shale gas prospection here. All UK activity ground to a halt last year, when a couple of minor quakes majorly spooked dwellers of Lancashire where a company – Cuadrilla – was test fracking.

Fast forward to April 2012, and a UK government appointed panel of experts including one from the British Geological Survey now says, "There was a very low probability of other earthquakes during future treatments of other wells. We believe that (last year's) events are attributable to the existence of an adjacent geological fault that had not been identified. There might be other comparable faults, (and) we believe it's not possible to categorically reject the possibility of further quakes."

However, it added that while the tremors may be felt in areas where fracking is conducted, they won’t be above magnitude 3 on the Richter scale and were unlikely to cause any significant damage. The panel’s report has now been sent for a six-week consultation period.

The British Department of Energy and Climate Change (DECC) is expected to issue a set of regulations soon and ahead of that a verbal melee has ensued with everyone for or against wanting a say and environmental groups crying foul. However, there was near unanimous approval for a control mechanism which would halt fracking activity as soon as seismic levels rise above 0.5 on the Richter scale. The engineers wanted in too.

Dr. Tim Fox, Head of Energy and Environment at the Institution of Mechanical Engineers, says, “The recommendations that any shale gas operations should be more closely monitored are welcome. UK and European environmental regulations are already some of the most stringent in the world; and these proposed precautions are a good example of how to help mitigate the risk of any damage caused by seismic activity as a result of shale gas activity.”

City energy analysts also gave the panel’s conclusions a cautious thumbs-up as there is a long way to go before a meaningful extraction of the gassy stuff occurs in any case. Jim Pearce, Energy and Process Industries practice partner at global management consultancy A.T. Kearney, says, “Shale developments offer the UK an opportunity to exploit a relatively clean resource and fill the energy gap that is opening up once again as nuclear projects come under threat. If the UK is going to use gas we should look for the best available source, which is arguably shale gas. Moreover, shale developments may also provide the UK’s chemical industry with a much needed boost if ethane and other NGL’s (natural gas liquids) are also found.”

He opines that UK and the rest of Europe are falling rapidly behind on gas supply security and cost. “Our key industries will be coming under increasing threat if we do not react to the new order that shale has created. We have a great opportunity here to take the lessons learned from the US and benefit from them,” Pearce adds.

Oh what the ‘frack’, that’s surely reason enough to tolerate a few quakes providing the security of the water table is preserved and concerns over water pollution are addressed. Yikes, that’s another quaky one! Away from shale, the 30th anniversary of the Falkland Islands war between the UK and Argentina came and went earlier this month marked by remembrance services for the fallen, but accompanied by the usual nonsensical rhetoric from British and Argentine officials, more so from the latter irked by oil prospection off the Islands’ shores which it claims as its own.

Five independent British oil companies are exploring four areas for oil in Falkland Islands’ waters, but only one of these – Rockhopper – claims to have struck meaningful reserves of the crude stuff. It says it could get 350 million barrels in the Sea Lion field to the north of the islands, which it plans to bring onstream by 2016. However, analysts at Edison Investment Research noted in March that a total of 8.3 billion barrels could lie offshore. So expect each anniversary and the run up to it from here on to be accompanied by ‘crude’ rhetoric and much frothing from Buenos Aires.

When it comes to being ‘crude’, the Argentines are in a class of their own. Just ask Repsol! On Wednesday, the country’s Senate approved the controversial decision, announced last week by President Cristina Fernandez de Kirchner, to nationalise Repsol YPF thereby stripping Spanish giant Repsol’s controlling stake in YPF.

Following the bizarre but locally popular announcement last week, while its stock plummeted, rating agencies scrambled to downgrade Repsol YPF’s ratings with Fitch Ratings and Moody’s doing so in tandem. Warnings to Argentina from the Spanish government, EU Trade Commission and last but not the least Repsol itself have since followed.

Repsol wants around US$10 billion for its 57.4% stake in YPF, but Argentina has said it does not recognise that valuation. There also one more thing they don’t possibly recognise - it’s called ‘sound economics’ which often gets trumped by ‘good politics’ in that jurisdiction. A number of analysts’ notes have been doing the rounds since April 17th when Kirchner went down the route towards nationalisation. Most had the same dire forecast for Repsol, but for the Oilholic, one issued by the inimitable Stuart Joyner, head of oil and gas at Investec, stood out.

In it he notes, “The apparent decision to nationalise YPF means we move to a worst case for the value of Repsol's 57.4% stake. The Argentine Tango is the consummate dance of love, but there was little affection for the country's largest foreign investor in Buenos Aires yesterday.”

Well said sir! Meanwhile with near perfect symmetry while the Argentines were being crudely castigated, Time magazine decided to name Brazilian behemoth Petrobras' CEO Maria das Graças Silva Foster one of the most influential people in the world. That’s all for the moment folks! Keep reading, keep it ‘crude’!

© Gaurav Sharma 2012. Photo: Gas pipeline © National Geographic photo stock.

Of Argentina, Petrobras & a few odd pipelines

Last ten days has seen the crude focus shift to Argentina for a multitude of reasons which may be construed as good or bad depending on your point of view. To begin with, BP’s move to sell assets in Argentina has fallen through after its partner withdrew from the deal. BP wanted to sell its 60% stake in Pan American Energy (PAE) to its partner in Argentina, Bridas Energy Holdings, which is subsequently owned by CNOOC, China's largest offshore oil producer.

However, on November 6th CNOOC said it was terminating the deal, signed a year ago as BP was grappling with the fallout from the Gulf of Mexico oil spill. The stake sale was worth an estimated US$7 billion and was one of the largest sales agreed by the firm following the disaster. It is understood that BP will now have to repay its US$3.5 billion deposit on the agreement which had been contingent on regulatory approval.

Barely days later, on November 8th, Spanish giant Repsol’s Argentine subsidiary – YPF Sociedad Anónima – said it had found 927 million barrels of recoverable shale oil in Argentina which could catapult the country to the energy elite league.

In a statement, YPF said the discovery – located in the Vaca Muerta basin of Argentina's Neuquen province – "will transform the energy potential of Argentina and South America, boasting one of the world's most significant accumulations of non-conventional resources".

The discovery is likely to give renewed impetus to the country’s creditors who have been chasing the Argentine government for almost a decade since its default in 2002. Most bondholders took part in debt exchanges in 2005 and 2010, but a brave crew of EM and NML Capital – an affiliate of Elliott management – along with a group of 60,000 individual Italian investors have been bravely holding out and using legal avenues to recoup the US$6 billion-worth of debt plus interest. They may think it’s about time the country paid courtesy of a commodities-led boom.

Regrettably for YPF though, the find came only days after Moody's downgraded Argentine oil & gas companies. These included YPF, Pan American LLC, Petrobras Argentina, Petersen Energia and Petersen Energia Inversora.

According to Moody’s, the ratings downgrade and review for further downgrade were prompted by the new presidential decree requiring oil, gas and mining companies to repatriate 100% of their export proceeds and convert them to Argentine pesos. Previously, oil and gas companies operating in Argentina were permitted to keep up to 70% of their export proceeds offshore.

Neighbouring Brazil’s oil & gas behemoth Petrobras has been busy too. On November 3rd, it announced a new oil discovery in the extreme South Western part of the Walker Ridge concession area, located in the Gulf of Mexico’s ultra-deep waters. The discovery confirms the Lower Tertiary's potential in this area. (see map on the left; click to enlarge)

The discovery – Logan – is approximately 400km southwest of New Orleans, at a water depth of around 2,364 meters (or 7,750 feet). The discovery was made by drilling operations of well WR 969 #1 (or Logan 1), in block WR 969. Further exploration activities will define Logan's recoverable volumes and its commercial potential.

Norway’s Statoil is the consortium's operator, with 35% stake. Petrobras America Inc. (a subsidiary of Petrobras headquartered in Houston, Texas) holds 35% of the stake, while Ecopetrol America and OOGC hold 20% and 10%, respectively.

Petrobras holds other exploratory concession areas in this region, which will be tested later on, growing the Company's operations in the Gulf of Mexico. The Brazilian major is the operator of Cascade (100%) and Chinook (66.7%) oilfields and holds stakes in the Saint Malo (25%), Stones (25%) and Tiber (20%) discoveries, all with significant oil reserves in the Lower Tertiary. Additionally, Petrobras has stakes in the very recent Hadrian South (23.3%), Hadrian North (25%) and Lucius (9.6%) discoveries, all with significant oil reserves and in the Mio-Pliocene.

The company has been pretty busy at home as well, announcing that the first well drilled after the execution of the Transfer of Rights agreement confirmed the extension of the oil reserves located northwest of the Franco area discovery well, in the Santos Basin pre-salt cluster (see map on the left; click to enlarge).

The new well, informally known as Franco NW, is at a water depth of 1860 meters, approximately 188km from the city of Rio de Janeiro and 7.7km northwest of discovery well Franco (or 2-ANP-1-RJS).

The discovery was confirmed by oil samples of good quality (28º API) obtained through cable tests. The well is still in the drilling phase with the aim of reaching the base of the reservoirs containing oil. Once the drilling phase is complete, Petrobras will continue with the investment activities provided in the Mandatory Exploratory Program (or Programa Exploratório Obrigatório, PEO as it’s referred to locally).

From South American discoveries to North American pipelines as it emerged last night that the Obama administration has chickened-out of making a decision on Keystone XL. Faced with the environmental lobby on one side and the Unions craving jobs on the other, the US government has requested further studies on the project which would in theory delay the decision to build the 2700km pipeline well after 2012 presidential election. Frustration across the border in Canada is likely to grow as the Oilholic noted from Calgary earlier this year.

If he rejected the project, Obama could be accused of destroying jobs. If allowed it to go ahead, it could lose him the support of some activists who helped him win the Presidency. So he chose to do what political jellyfish usually do before a crucial vote – nothing.

Additionally, reports surfaced earlier in the week that Houston-based Cardno Entrix – a company involved in the environmental review – had listed developer TransCanada, the pipeline’s sponsor, as a "major client".

A review is now likely to look into this as well as state department emails related to a TransCanada lobbyist who had worked in Secretary of State Hillary Clinton's 2008 presidential campaign. TransCanada says that while it is disappointed with the delay, it continues to “conduct affairs with integrity and in an open and transparent manner.”

Continuing with pipelines, Moody's has assigned a Baa3 rating to Ruby Pipeline's US$1.075 billion senior unsecured notes. The senior unsecured notes have staggered maturities and will be used to refinance US$1.5 billion of project construction loans. The rating outlook is stable.

Stuart Miller, Moody's Vice President and Senior Analyst, said last week that the pipeline is a strategic link that provides diversity of supply to the utilities and industrial markets in Northern California and the Pacific Northwest.

"Hence, the primary drivers for Ruby's Baa3 rating are its initially high leverage tempered by a high level of ship-or-pay firm contracts with counterparties with a weighted average credit rating of Baa1 as well as our expectation that the ratio of debt to EBITDA will rapidly decline to below 4.5x," he concluded.

Ruby's leverage is expected to improve over the next five years as its capital structure includes a five year amortising term loan. Because of the required amortisation, Ruby's leverage, as measured by debt to EBITDA, should decline from approximately 5.2x to less than 4.5x by the end of 2013. Any revenue earned from the 28% un-contracted pipeline capacity would reduce leverage quicker, the agency noted. Finally, Nordstream I gas pipeline came onstream earlier in the week. Here's the WSJ's Oilholic approved take on it.

© Gaurav Sharma 2011. Map 1: Petrobras prospections in Gulf of Mexico © Petrobras 2011. Map 2: Petrobras in Santos Basin, Brazil (Courtesy: Petrobras)

Deloitte’s Take on UK Upstream Independents

A report into activities of UK upstream independent companies published by consulting firm Deloitte this morning makes-up for quite interesting reading. Its ranking of 25 leading independents has the usual suspects – Tullow Oil and Cairn Energy atop, as first and second. However, movements elsewhere in the table narrate a story of their own.

Desire Petroleum Plc, Borders & Southern Petroleum Plc and Rockhopper Exploration Plc rose in market value rankings for London-listed independent production companies as they hold exploration rights near the Falkland Islands. According to the report, Desire, which started exploratory drilling in Falkland Island Waters for the first time since 1998, rose by 10 places to 14th place, Borders & Southern rose 17 places to break into the top 25 at 15th and Rockhopper Exploration Plc rose 23 places to 26 – just outside the top 25.

Desire’s Liz prospection field has estimated resources of between 40 million and 800 million barrels, according to published reports. Meanwhile, Falkland Oil and Gas Plc, another operator, has estimated resources of between 380 million and 2.9 billion barrels at its Tora prospection, according to its Q4 documents.

Argentina and UK went to war over the Falkland Islands in 1982 after the former invaded. UK forces wrested back control of the islands, held by it since 1833, after a week long war that killed 649 Argentine and 255 British service personnel. The Islands have always be a bone of contention between the two countries. The prospect of oil in the region has renewed diplomatic spats with the Argentines complaining to the UN and launching fresh claims of sovereignty.

UK has rejected the claims on the basis of the right of self-government of the people of the Islands "underpinned by the principle of self-determination as set out in the UN charter". Market commentators feel the fresh round of diplomatic salvos are as much about oil as they are about politics. A widely held belief that fresh conflict was highly unlikely could precipitate in independent operators in the region being taken over by oil majors.

Ian Sperling-Tyler, co-head of oil and gas corporate finance at Deloitte, raised some very important points while doing his press rounds. In separate interviews with Bloomberg and CNBC Europe, he opined that the wider market would have to wait and see what effect political risk will have on activity levels in the Falklands. However, he thinks it is highly plausible that operators in the Falklands were not big enough to monetise those assets on their own.

Hence, they could very well be acquired by a bigger company. And well the independents are growing bigger by the month too. The top two in the league table - Tullow Oil, which is developing reserves in Uganda, and Cairn Energy, which focuses on India, accounted for 60% of the market capitalisation of the top 25 companies for 2009, the report shows (click on image).

As for the diplomatic row between the two nations; it’s nothing more than a bit of argy-bargy with an oily dimension and is highly likely to stay there. Meanwhile, the BBC reports that Spanish oil giant Repsol might be about to join the exploration party from the Argentinean side.

© Gaurav Sharma 2010. Table Scan © Deloitte LLP UK