Big Oil Game 2020

It is truly amazing how we keep having one #blackswan event after another as 2020 has barely started (first it was #CoVid-19, now we have a full-scale oil price war). As you may know, during the 2010s, the US #shaleoil initiatives were gradually taking shape intending to review the potential of shale as a strategic resource for other liquid fuels. Everything was going really smoothly for our good pals across the ocean until #SaudiArabia decided to turn that rapid development into the other direction and caused a slump in the price of crude back in November 2014.

Saudi Arabia has world-beating crude extraction costs at about $10-15 per barrel, while the US shale extraction costs range between $35-60 per barrel. The only oil producers for whom it was still viable to keep operating at the oil price levels of 2015-2016 were #OPEC and #Russia, who expanded their market shares in the global oil markets. After two years of the oil price war, both parties came to a new agreement of reducing the levels of output with Russia joining #OPEC+ in November 2016. The oil prices went back up, and so did the oil extraction levels of the rest of the world, including those of the US.

So here we are in March 2020, and this time it is nobody else, but Russia starting an oil price war. Why? The answer will be quite an intriguing one. Let us look at a 4-year perspective and analyse the actions of Putin’s government up until this very moment.

Russia’s military budget assignments have been trending downwards since 2016 due to a one-off government debt repayment of almost $11.8 billion to Russian arms producers. Using the start of the #FIFA World Cup 2018 as a cover, the Russian government announced the pension reform presuming a substantial increase of the retirement age (for men from 60 to 65 and women from 55 to 63).

In January 2019, the Russian standard #VAT rate was increased from 18% to 20% even though the country does not have a budget deficit. Russia needs an oil price of roughly $40 a barrel to balance its budget, while Saudi Arabia needs over $80 a barrel to balance its books (confirmed by #IMF).

The Saudis did not suffer much at the time. Moreover, their budget deficit has increased and reached 23% of country #GDP since 2015. To cut a long story short, they will not sit quietly for too long at the oil price of $40. They will either have to reduce budget expenditures or reduce output level within OPEC but without Russia this time, giving away market share to their #Siberian competitors.

It turns out that Vladimir Vladimirovich has been preparing for this war for a while to avenge Trump for sanctions against the #NordStream2, #Venezuela, and #Crimea, increasing the oil market share of Russia and squeezing out the American shale in the meantime.

What to do? Buckle up, because we are in this for the long run. Stay away from plummeting US oil #stocks, as the situation will only get worse with them. Probably do not buy Russian ones either (or mourn the ones you have already got your hands on). However, feel free to shop in other US sectors. In theory, they will only do better with cheap oil.

Published by Bogdan Stepanov OPEC Russia Energy OilPrices