Colluding to Bring Down Crude Oil until Shareholders Revolt

Everything hinges on crude.

That’s the gist I’m getting from commentators and analysts — that risk appetite across markets will be driven by the fate of crude oil prices.

But I’m not so sure.

Still, it’s worth wondering what is going on with crude when it inexplicably jumps about 6% in one day when all signs still point to bear country.

Where one thinks the road is still long for crude’s decline, maybe the pain will force the hands of those parties that matter.

And crude oil will surprise.

Maybe.

***

Last Wednesday’s surge coincided with a crude oil inventory report that could be considered neutral at best.

Supplies didn’t build as much as some analysts expected.

But build they did, adding to several prior weeks of supply builds.

Nothing juicy for the bulls, that’s for sure. Apparently, though, a few too many weak hands were caught short and decided to bounce.

From a trader’s perspective, that adverse price action relative to the news could mean something in the immediate future.

But it doesn’t much change the bigger picture for crude.

Maybe, though, there is something brewing that could improve the fortunes for crude and the producers suffering as their lifeblood fades.

Since demand is not going to change meaningfully anytime soon, we must look first to supply.

What — or perhaps I should say who — is the most important factor that influences crude oil supplies?

The answer may seem a little less obvious in the days of a North American shale boom. But I’ll argue that Saudi Arabia is still the Sultan of Swat when it comes to global crude production.

They are pumping crude like it’s going out of style, and they essentially dictate OPEC production quotas.

***

Iran is a member of OPEC.

And the country isn’t exactly thrilled with where crude oil is trading.

A couple weeks ago, an Iranian oil minister expressed his dismay that OPEC has not agreed to cut production so that prices would rise to the $70 to $80 range.

Imagine how many oilmen share his sentiments.

Saudi Arabia, though, has held on to overproduction like North Korea is clutching its nukes.

The easy explanation is their intent to keep market share by pricing North American shale producers out of competition.

On the surface, that sounds like a very normal, nationalistic response from a country that is, for all intents a purposes, a petro state.

Saudi Arabia’s stock market has already fallen 31% since oil started taking a bath. And compared to the MSCI Emerging Markets Index, Saudi stocks still trade at extremely high valuations.

Translation: Saudi Arabia probably knows there’s more pain where that came from.

But let’s be real.

Even though investors probably want to see better valuations before they jump back into Saudi shares, the decision-makers don’t care.

They only care that they maintain their market share.

Until they have to start caring otherwise.

***

Masood Ahmed, IMF Director of Middle East & Asia, was on Bloomberg last week when he named Saudi Arabia as one of three Gulf States with long-term issues to address in their oil industry.

I’ve already explained how Saudi Arabia is burning through foreign exchange reserves to dull the effects of falling crude prices. It’s been a meaningful decline so far, but disaster is not imminent.

On other fronts, though, Saudi Arabia must worry.

The Kingdom’s current account balance moved sharply from surplus to deficit.

The deficit, equal to about $130 billion, compares to about 20% of Saudi GDP.

It’s not good.

But even still, is this not something Saudi Arabia realized would happen?

After all, this isn’t their first dance. They are the leader of a cartel whose purpose is to manage production in ways that are beneficial to their economies.

Saudi Arabia may not care about other OPEC members. But you can bet they wouldn’t be risking such a blow to their own economy if there were not a clear agenda in place.

***

Oh, that agenda.

Oil makes the world go ’round. So it gets plenty of attention.

In trying to figure out precisely why Saudi Arabia has let overproduction bring prices so far down, the hypothesis starts at North American shale.

Saudi Arabia wants to eliminate the competitiveness of unconventional oil producers, or so the theory goes.

But that seems almost too rudimentary.

Hypotheses then turn to collusion with the United States. Why would the U.S. collude with Saudi Arabia and risk America’s energy independence?

To spite Russia, of course.

That seems rather plausible, since Saudi Arabia wants a natural gas pipeline through Syria into Europe but Russia and Iran are resisting. The U.S., bent on facilitating disorder in the region, is happy to help the Saudi Arabian-led Sunni coalition push back Russia and Iran in order to oust Syrian leadership.

Plausible. Sure.

But the real reason could be more cannibalistic.

***

‘Shell Has Biggest Loss in More Than a Decade on Price Slump’

That was a Bloomberg headline last week when Royal Dutch Shell reported third-quarter earnings.

‘Total’s Net Profit Falls 69%’

That was a Wall Street Journal headline last week when Total SA reported.

‘ConocoPhillips posts quarterly loss as crude prices crash’

That was a Reuters headline last week.

It’s a common and predictable trend of disappointments among oil majors. These reports have been littered with anecdotes of these producers selling off operations and slashing spending.

These large producers, among the distinguished group called Supermajors, make tons of money with operations spread around the world.

They are headquartered in major economies like the U.S., Britain and France, but they go where the oil is.

And the oil is in the Middle East.

The oil is in Saudi Arabia.

Might Saudi Arabia have "colluded" with major oil companies to wipe out North American shale-only producers with low prices and burdensome debt?

They might have.

And they also might be suffering from their own poison. Will a series of dismal earnings reports mark the end of the overproduction schemes happening behind the crown of Saudi Arabia?

In other words, might shareholder discontent finally force Saudi Arabia to turn off the spigots?

Do right,

JR Crooks

“JR” specializes in trading commodities, currencies and options. He has spent nearly 10 years analyzing financial markets and writing about global economics. JR honed his trading techniques and global-macro worldview alongside his father, Jack Crooks, at Black Swan Capital. JR also…