The Crude Story

February 9, 2015 Crude Oil 4 min read
The Crude Story

Oil (all) is not well

Crude oil is making the news almost at the same time since Mr Modi became our PM and  now you may also hear some of them stating it’s the Modi’s charm which has brought the crude oil at such a compelling levels specially for a 80% net crude importing country like India, while some say the Modi government just ‘ got lucky’ with crude fall in taming the Indian inflation.

How a crude story connected to stock trading

Nevertheless this has given a huge comfort cushion to the policy makers, atleast in the terms of taming inflation and the results are very pleasing in terms of the WPI inflation cooling very drastically, off late and with the RBI coming on a rate cut spree, which the stock markets have given a huge ‘thumbs up’ & as more people want to open trading and demat account this all looks very much like falling in place of India becoming the world’s largest economy in the coming decade and the whole decoupling theory with an the emerging economy like india is started taking a practical shape and the Modi’s dream of $ 20 trillion economy looks like a reality now.

But still most are wondering what is exactly happening in the Crude oil prices, why is the price correcting so sharply and the most important question is till when ?

The crude price mechanism is not as simple as it looks, this is a repeated cycle 1982 where crude oil prices fall from 112$ to sub 32$ a barrel price. OPEC – Organization of the Petroleum Exporting Countries the body which majorly decides the crude production levels in turn defining the crude plays a major role in deciding the crude oil prices

Well to simplify it the crude oil prices have fallen from sub $110 in june’14 to current sub 50$ levels more than 50% fall in dollar terms till date, the fall is mainly attributed by the following reasons

  1. Global slowdown in European and a bit in Chinese economy easing the demand of crude oil, the demand side is hurt badly for the commodity which 4-5 years back was thought to be depleting resource on earth, making every country try and pump in huge money in exploration and production of this commodity within and outside the domestic demography, but this slowdown has make the prices fall vertically as the demand side shrunk drastically
  1. Importer becomes exporter: US is currently producing its historic high production of fuel mainly via the shale route and has now stopped importing crude oil, when it was once the world’s largest crude oil importer, US had started invested huge in the alternate fuel since 2007 and the SHALE was taken as a priority with the R&D and exploring domains, Shale gas is a newer and innovative technology where vertical drilling helps explorating companies to explore fuel in the  bed rock and shelling out a more clean and pure source of energy, but the cost of producing this fuel is still very high compared to the conventional crude oil prices.
  1. Denial by OPEC countries in reducing the crude production, this time around unlike the 1982 price fall, the OPEC countries has denied to shrink production which could have affected the supply side of the fuel and infact announced increasing production of the home grown crude oil, with a simple assumption of not loosing the market share, no matter the price realization on the crude commodity, this has continuously increased the supply side of the commodity
  1. The rise of alternate fuel : Since years Crude was assumed to be the main source of fuel to the commercial and domestic use by the world, but off late the alternate fuels both on renewable and non renewable are highly used and explored by both developed and emerging economies, giving hard time to the Crude basket
  1. The technological advancements in both automobiles and commercial consumption world over has in turn increased the fuel mileage and thereby reducing the fuel consumption by the world.

No one can deny there is a drastic and a substantial shift in the way we used to see and use crude oil, this can be a breakout of several decades and will define more decades if not centuries in coming future, the world will not be the same as we knew it some years back and be prepared to change yourself with the change in the world , this too has basically hit the sentimental cord on the crude oil price and so a sharp fall has been there, technically speaking the Crude oil has also broken down from a multiyear descending triangle pattern, which force the fall so hard

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What next ? 

Crude at sub 50 $ is not a very viable cost for non OPEC countries to produce oil, specially Shale producers which according to an estimate have a break even cost of $ 70 , also the nature of Shale gas is that the reserves starts decreasing in consecutive years to the tune of a 50% decrease in the 2nd year of production

The shale producer has to keep on reinvest in the rigs, where either the profit plough back or debt fund is used and the Selling cost of below $ 70 gives no option but Debt as the source funding of reinvestment and exploration of the fuel

The Total debt for listed American exploration and production firms has almost doubled since 2009 to $260 billion, and the reinvestment and the application for drilling permits have fallen by almost 40% in November ’14.

On the other hand the cost of producing crude of Gulf countries in house is in the range of $ 10-20/ barrel, which still gives them a huge space to avoid a cut in crude oil shortfall.

So to sum it up the fall in crude oil price atleast mathematically does not looks for more than 10-15 $ at max from here as the Shale production until the Government funding or subsidy is provided to kill the Crude fuel is given by the US governments to all its shale producers, but whatever the case may be, we will still need a huge macro change to see the Crude back to those three figure mark ( 100 $) very soon, which is a win- win for the country like india.

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