Whimper or a Bang: How does this business cycle end?

Transcription

1 Platts 6 th Annual North American Crude Oil Summit Houston April 10, 2017 Whimper or a Bang: How does this business cycle end? 1

2 Oil Prices and Recessions Oil price spikes are the bane of the consumer but the salvation of the oil sector How will this business cycle end? With an oil shock? If so, when? Two approaches Recession Oil shock Oil shock Recession 2

3 Oil Prices and Recessions Cumulative Growth in Oil Supply and Demand and Brent Oil Price Source: EIA Since 1971, every recession has been associated with an oil price shock. Will it happen this time around, and if so, when? 3

4 Oil Price / Barrel (WTI) 2017 Dollars PRINCETON Oil Prices and Recessions $29 $27 $ $ $21 $ $ $ Months from Beginning of Business Cycle Oil price spikes are associated with recessions as far back as 1946 Arguably true for all 12 (13) recessions since WWII 4

5 Where are we in the cycle? Avg The current expansion if we date if from 2009 is now almost eight years old. It is already the third longest expansion in the past century How long will it last? Expansion Recession (4) (3) (2) (1)

6 US Economic Fundamentals are Sound Cumulative Growth in Oil Supply from 2005 Average Source: EIA Non-manufacturing employment and activity index show steady growth 6

7 US Personal Consumption Expenditure Cumulative Growth in Oil Supply from 2005 Average Source: EIA US consumption continues to rise at a healthy pace 7

8 Initial Unemployment Claims Cumulative Growth in Oil Supply and Demand and Brent Oil Price Source: EIA Initial unemployment claims are the lowest since

9 But, Payrolls weak in March Cumulative Growth in Oil Supply and Demand and Brent Oil Price Source: EIA Hiring was weak in March. Was it a blip, the economy, or are we running out of labor? 9

10 Working Age Labor Participation Cumulative Growth in Oil Supply and Demand and Brent Oil Price Source: EIA Although the US unemployment rate is now 4.5%, the country still has 1-2% of its population in reserve to reach historically typical employment-to-population ratios About 1-2 years to full employment 10

11 Working Part Time for Economic Reasons Cumulative Growth in Oil Supply and Demand and Brent Oil Price Source: EIA There are additional reserves of labor 1 million part time workers would prefer to work full time, figure a reserve of about 0.5 million, or six months of incremental labor demand growth 11

12 Long Term Unemployed Still at Recessionary Levels Cumulative Growth in Oil Supply and Demand and Brent Oil Price Source: EIA One of the most pernicious effects of the Great Recession was long term unemployment Still not fully resolved 12

13 But the cycle is evidently peaking Cumulative Growth in Oil Supply from 2005 Average Source: EIA March auto sales were dreadful 13

14 Auto Sales - Peaks can sustain for Years Cumulative Growth in Oil Supply from 2005 Average Source: EIA Probably at the top of the cycle for vehicle sales but that doesn t imply an immediate crash 14

15 Housing is a Key Driver of Economic Cycles Cumulative Growth in Oil Supply from 2005 Average Source: EIA Real house price appreciation is probably the most worrying US macro indicator. A bit of a bubble forming 15

16 No Bubble in Housing Starts Cumulative Growth in Oil Supply from 2005 Average Source: EIA Existing home sales back to normal New home sales continue to lag Still room grow for months 16

17 And Household Financials are in Good Shape Populism Cumulative Growth in Oil Supply from 2005 Average Source: EIA Household debt service ratio is near forty year lows Great Recession should end when deleveraging stops 17

18 1Q Q Q Q Q Q Q Q Q Q Q Q Q Q Q Q Q Q Q Q Q Q Q Q Q Q Q Q Q Q Q Q Q Q 2016 PRINCETON What would a downturn look like? Japan GDP Percentage Growth - Quarter on Previous Quarter, Annual Rate No Boom: US GDP growth has been anaemic since the end of the recession Will we begin to look more like Japan? Since 2000, Japan has seen recession (contraction) about 35% of the time No meaningful pattern of expansion or contraction is readily visible 18

19 Japan Recession? What Recession? Despite generally anaemic economic performance, Japan continues to operate at effectively full employment Upward wage pressure for part time, low wage labor Full employment without an economic boom 19

20 An Aging Population Cumulative Growth in Oil Supply from 2005 Average Source: EIA The 65+ year old cohort is surging in the US Medical expenses increase disproportionately with age But spending on seniors does not improve the health of the country or the strength of its economy. Spending prevents health from deteriorating. More and more of GDP is directed not towards making things better, but preventing those from becoming worse 20

21 Healthcare and Productivity Cumulative Growth in Oil Supply from 2005 Average Source: EIA As more and more is spent on trying to maintain current productivity levels of incumbent infrastructure and human capital, productivity growth may be the victim Lower immigration and small family sizes have reduced population growth Together, low productivity and population growth imply low GDP growth rates On the other hand, these trends may also mean high employment, which is delinked from GDP growth Not much boom, not much bust hard to create price spikes without a boom Technical recessions and recoveries without much cyclical impact on oil prices 21

22 Killing the Business Cycle 22

23 Killing the Business Cycle This business cycle could very possibly die an unnatural death eg, 1991 Gulf War and oil shock Likely causes Poor macroeconomic policies Nationalism War or Embargo Production outages 23

24 Trump Rhetoric tanked the Peso Trump elected Cumulative Growth in Oil Supply from 2005 Average Source: EIA 24

25 US Real Estate Loans Cumulative Growth in Oil Supply from 2005 Trump Average elected Source: EIA US real estate lending has collapsed since the election 25

26 US Commercial and Industrial Loans Trump elected Commercial and industrial loan growth has also collapsed US consumer confidence notwithstanding, Trump s rhetoric has destabilised the business community 26

27 Adverse effects may not be permanent Trump elected But the mood can change quickly Cumulative Growth in Oil Supply from 2005 Average Source: EIA Mexico s consumer confidence and the value of the peso has particularly recovered as rhetoric has eased 27

28 US GDP Outlook US GDP outlook is pretty weak just now. Given the maturity of the business cycle, might not take a lot to knock it into recession 28

29 Jan-14 Mar-14 May-14 Jul-14 Sep-14 Nov-14 Jan-15 Mar-15 May-15 Jul-15 Sep-15 Nov-15 Jan-16 Mar-16 May-16 Jul-16 Sep-16 Nov-16 Jan-17 Mar-17 PRINCETON Price Sensitive Consumers 15% 10% 5% 0% -5% US Gasoline Supplied (Demand Proxy) $110 $100 $90 $80 $70 $60 $50-10% -15% Annual Change, PSW (%) Annual Change, PSW, Percent (4 wma) WTI (r) $40 $30 $20 US consumer looks quite sensitive to pump prices. Flee gasoline consumption when oil prices are much above $50 WTI Not clear US or OECD economies have much punch to move oil prices up 29

30 China 30

31 China s Economic Growth Cumulative Growth in Oil Supply from 2005 Average Source: EIA China is not the country it was before the current Xi government Capital Economics China GDP proxy suggests GDP growth has fallen to around 4% per year Despite recent short term performance, GDP growth is expected to languish in 2017/

32 China Government Fiscal Balance Cumulative Growth in Oil Supply from 2005 Average Source: EIA Growth is weak despite large budget deficits Even as other countries finances have mended after the Great Recession, China s continues to deteriorate 32

33 Exploding Levels of Private Credit in China Cumulative Growth in Oil Supply from 2005 Average Source: EIA And it s not just the government. China corporate and household borrowing has rocketed up since 2009 as the government attempts to stimulate the economy 33

34 Why isn t it working? Xi s authoritarian and nationalist policies have frightened both China s business class and foreign investors The result: capital flight and falling reserves as China tries to prop up its currency 34

35 Money cannot create Political Legitimacy Change in Production compared to 2013 Average: OPEC + Russia Source: EIA, Nov STEO China is reduced to using fiscal and monetary stimulus instead of domestic and international legitimacy A losing game for government dependent on meeting the growing expectations of its highly leveraged population dependent on maintaining real estate values 35

36 South Africa Jordan Belarus Islamic Serbia Colombia Thailand Peru Ecuador Libya Turkmenistan Bulgaria Kazakhstan China Brazil Mexico Russia Turkey Romania Malaysia Venezuela Costa Rica Croatia Hungary Poland Argentina Chile Latvia Lithuania Oman Uruguay Slovak Estonia Greece Czech Portugal Saudi Arabia Slovenia Taiwan Bahrain Kuwait Spain Korea PRINCETON China s Future and Per Capita GDP Advanced Democracy Established Democracy Weak Democracy Oil Autocracy Authoritarian Chaotic, Dictatorship Per capita income $30,000 $25,000 $20,000 $15,000 $10,000 1 $5,000 0 $0 Many of the countries around China s per capita GDP are already weak democracies At the current pace of development, China will likely become a democracy within ten years, and very possibly, within five While China is an important component of incremental oil demand, it is unlikely to power another price spike in the foreseeable future 36

37 Other Countries 37

38 Other Countries European economy is looking up and has running room for some time but not huge source of incremental oil demand India is becoming a real consideration in oil demand now showing oil consumption increasing faster than China in some quarters India is still not at the phase where it is likely to cause an oil price shock 38

39 The Importance of US Shale Oil 39

40 Forecast mbpd PRINCETON Canada 12 US 10 Other non-opec 8 OPEC 6 Pct US + Canada (r) Oil Supply Growth 100% 90% 80% 70% 60% 50% 40% 30% 20% 10% 0% Cumulative Growth in Oil Supply from 2005 Average Source: EIA From 2005 to 2010, the oil supply hardly grew and all growth came from Canada and the US Through Dec. 2014, 85% of all supply growth from 2005 came from the US and Canada alone OPEC only started to really add supply once the oil price collapsed, and added 2.1 mbpd in the last two years. Even today, oil sands and US shale oil are 2/3 of total supply growth since 2005 What s the outlook for shale? 40

41 US Horizontal Oil Rig Count 1200 US Horiztonal Oil Rig Count $ All Other US Eagle Ford Cana Woodford WTI Spot (right) Permian DJ-Niobrara Williston $80 $ $60 $ $ $30 0 $20 Horizontal oil rigs: 561, about half of Nov peak 41

42 Horizontal Rig Gains from the Cyclical Trough 350 Cume Change in HZ Oil Rig from Trough Permian Cana Woodford All Other US DJ-Niobrara Eagle Ford Williston Total Not yet producing oil Total increase in horizontal oil rig count from trough : +313 ( 126%) Perhaps 200 of these rigs almost 2/3 are not yet producing oil 42

43 May-13 May-27 Jun-10 Jun-24 Jul-08 Jul-22 Aug-05 Aug-19 Sep-02 Sep-16 Sep-30 Oct-14 Oct-28 Nov-11 Nov-25 Dec-09 Dec-23 Jan-06 Jan-20 Feb-03 Feb-17 Mar-03 Mar-17 Mar-31 PRINCETON Horizontal Rigs to Call Line Cume Horiztonal Oil Rigs to 'Call' Line Rig Deficit to "Call" "Call on Shales" Line (l) Rig Gain from Trough (l) WTI (r) $60 $58 $56 $54 $52 $50 $48 $46 $44 $42 0 $40 And rigs counts are rising faster than the expected call line essentially the pace Saudi Arabia and other OPEC players anticipated when the OPEC deal was signed 43

44 mbpd PRINCETON US Crude + Condensate Production US Crude + Condensate Production Weekly C+C Production STEO US C+C (Mar '17) WTI (r) $110 $100 $90 $ $70 $60 $50 $40 $ Jan-16 Apr-16 Jul-16 Oct-16 Jan-17 Apr-17 Even though more than half the incremental rigs yet to contribute to the oil supply, US production has been increasing at a 1.7 mbpd / year rate through Q1. Models are not capturing production dynamism properly Most analyst forecasts see kbpd increase in US production in Could be twice that, or more. And if rig count additions continue at the recent pace, 2018 supply additions will be even greater. The revolution is not over. $20 44

45 million barrels PRINCETON Excess Crude and Product Inventories 600 Excess World Crude and Product Stocks EIA Consultancy B Bank Trading House Observed - 4Q Q Q Q Q Q Q Q Q Q Q Q Q Q Q Q Q 2018 Global excess crude and product inventories are currently estimated around 400 mb These could fall below 200 mb at year end by more aggressive estimates The EIA, some banks, and trading houses see a more gentle draw Neither case supports heady oil prices in 2017, and dove-ish forecasts don t close the gap in 2018, either. Hard to make a case for an oil price spike in the next two years on inventories outlook. 45

46 Longer Term is Not Assured Oil Consumption in 2016 Oil Discoveries by Year Source: Bloomberg Oil discoveries in 2016 may be the lowest on record and they were not healthy even at $100 / barrel We have left the world of extensive development, and entered the world of intensive development We are either running down known reserves (OPEC) or exploiting known resources more intensively through technological innovation (shales) 46

47 Years of Consumption Years of Consumption PRINCETON But that doesn t mean we re running out of oil (yet) 45 Reserves to Consumption since 1980 (Years) 39.5 Reserves to Consumption since 2005 (Years) World Oil Reserves / Annual World Oil Consumption* Source: BP Statistical Review, *excluding Canadian oil sands and Venezuelan tars We will have nearly 40 years of oil reserves These will increase with technological development and some new discoveries But confidence that the oil boom-bust cycle is over, or that oil supplies are endless, is most likely misplaced. 47

48 Summing Up 48

49 F 2020F PRINCETON Oil Prices and Economic Cycles 8% Crude Oil Spend as a Percent of World GDP 7% 6% 5% 4% 3% Recession / Stagnation No man s land / No stable position 2% 1% Normal economic growth 0% Crude Oil Spend as a Share of World GDP Source: EIA. IMF When the oil supply is constrained, oil spend will average 4-5% of world GDP When the oil supply is unconstrained, the spend will average % of GDP There appears to be no stable position in between these two poles Today, oil prices are consistent with normal economic growth but not particularly cheap by historical standards 49

50 F 2020F Curde Oil Spend as Percent of World GDP PRINCETON Oil Prices and Economic Cycles $180 $160 $140 $120 $100 $80 $60 $40 $20 Crude Oil Spend as a Percent of World GDP Brent Oil Price (l) Forecast Oil / GDP - Futures (l) Oil Consumption / GDP (l) Forecast Oil / GDP - Spike (l) Recession / Stagnation No man s land / No stable position Normal economic growth 8.0% 7.0% 6.0% 5.0% 4.0% 3.0% 2.0% 1.0% $0 0.0% Crude Oil Spend as a Share of World GDP Source: EIA. IMF If the futures curve proves correct, oil consumption / global GDP hovers around 2.2% of global GDP through the early 2020s no oil shock, and maybe no recession If shales falter, an alternative scenario could see oil prices back around $90 in

51 Conclusions No real drivers of a surge in demand are visible The US expansion is now mature. A recession might be expected within 24 months US consumer not willing to hold oil consumption at high prices Europe still has room to run for several more years China has taken itself off the fast track. Not likely to return without a material change of leadership or ideology India may become the leading source of incremental demand growth Solid demand growth may be expected but nothing game-changing Supply and marginal cost will remain driven by US shales US shales will remain the backbone of global supply growth Not clear that all efficiencies have been wrung from the system Shale can respond in volume in a matter of months Still plenty of excess inventory 51

52 Conclusions The next recession will be accompanied by a oil price spike if The current expansion dies an unnatural death from war, some other supply outage, or a policy mistake (likely), or The recession begins in the time frame, after US shales have lost their resilience Demographic changes may be dampening the business cycle in the advanced countries Toggling between modest expansion and modest contraction near full employment Not easy to create on oil price spike under such a regime Overall, a lasting oil price spike looks difficult to generate in the next two calendar years, and perhaps longer. 52

53 Thank you Steven Kopits Managing Director Princeton Energy Advisors 53