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Welcome back to Energy Source.
First of all, drop what you’re doing and read this investigation that goes inside North Korea’s oil smuggling; it features triads, ghost ships and underground banks.
I’m biased of course, but the Financial Times has been knocking the ball out of the park with big stories lately, from Jamie Dimon to Credit Suisse to SVB. This investigation in particular, however, deserves all the plaudits it’s getting.
Meanwhile, the oil price recovery from the vicious sell-off earlier this month paused again yesterday, with Brent settling down half a per cent to $78.28 a barrel. WTI settled down a similar amount, at $72.97/b.
A rise in the dollar might be to blame. But when you consider that US crude stockpiles plunged last week, Russian output fell, and operators in Iraqi Kurdistan began shutting production amid a halt in pipeline exports to Turkey — all ordinarily bullish signals — there must be a lot of bearish sentiment still lurking in the market to send the main benchmarks a bit lower again. Does the oil market know something about the economy? Please weigh in: email@example.com.
We’ve been reporting for months about the souring outlook in the shale patch. The mood is certainly becoming dark. Yes, last year was a bumper year with record cash flows. But cost inflation is wreaking havoc on profitability, and premium acreage is getting thin. Problems in one of the world’s crucial swing suppliers should also be a recipe for higher prices. But as Myles writes below, even shale execs have become gloomier about the commodity.
In Data Drill, Amanda offers a primer on what to watch as the Biden administration prepares to clarify the rules that will let US battery makers get the huge tax credits on offer. The announcements are due this week. Billions of dollars of investment — and the pace of electrification in the US — are at stake.
Thanks for reading. — Derek
‘Chickens seem to be coming home to roost’
Things are looking increasingly grim in the shale patch.
Growth in the engine room of the US oil sector all but ground to a halt in the first three months of the year.
At least that is the takeaway from the Dallas Federal Reserve’s closely watched industry survey, the results of which were released yesterday.
The Fed’s business activity index — a proxy for sentiment in the sector — slipped to 2.1 in the first quarter of this year, from 30.3 at the end of last year. That suggests the brakes have been slammed on growth (anything below zero is a contraction).
As we’ve been reporting for months, despite last year’s high prices, the shale patch’s problems have been mounting for some time now.
Service cost inflation continues to run rampant; the cupboard of decent drilling acreage is getting patchy; investors remain adamant that practically every cent made be distributed back to them; and prices have fallen well below last year’s highs.
Add to that a banking crisis that triggered worries about both the future of demand and capital availability. The mood among executives was bleak.
“The road ahead looks difficult, but passable,” said one executive, adding:
“An estimated 30-40 per cent cost increase in field operations, increased interest charges on borrowed money, a drastic collapse in natural gas prices combined with lower crude oil prices produced a noticeable lower cash flow. Service company capacity is quite limited in select basins. Outside investors seem to be losing interest in hydrocarbons. The worldwide macroeconomic and political outlook is cloudy.”
The fact that the survey was taken in the middle of the recent banking upset will certainly have weighed on sentiment, with many executives fretting that credit would be increasingly hard to come by. As one put it:
“The current low oil prices, coupled with the banking scare, will be hard on smaller, undercapitalised companies to conduct business as usual. There will be tougher credit and lower reserve values because of new price decks.”
Yet, even as the turmoil in the financial world eases and oil prices begin to firm again, bullish sentiment is limited. Three executives surveyed explicitly mentioned the prospect of recession.
Recent optimism that oil would soon top $100 a barrel — the same optimism that, as Justin reported this week, led operators to ditch some of their hedges — has ebbed. Executives reckon oil will end the year just shy of $80/b.
Indeed, for some, the combination of softer prices and rising costs has brought today’s price uncomfortably close to that needed for drilling to break even. On average, operators say they now need a WTI price of $62/b to profitably drill — up from $56/b last year. Even in the prolific Permian, home to the US’s premium acreage, the break-even price for new wells has climbed $9 to $61/b.
The malaise underlines shale’s departure from a position of influence in global oil markets — no longer the juggernaut swing producer of old.
As one exec quipped: “Chickens seem to be coming home to roost.”
All eyes in the US auto industry are on the Biden administration this week as it prepares to release long-delayed guidance on the electric-vehicle tax credit.
The landmark Inflation Reduction Act included a $7,500 consumer tax credit to increase EV adoption while boosting domestic manufacturing. An EV that qualifies for the full tax credit must source at least 40 per cent of the value of its critical minerals from the US or countries with US free trade agreements. At least half of the value of battery components must be manufactured in North America.
It’s a tough task considering the US has virtually no mining capacity for critical minerals such as lithium and cobalt and produces 1 per cent of the world’s anodes and cathodes, according to an analysis by the International Energy Agency. The exclusion of allies that lack free trade agreements such as the EU and Japan have also soured trade relations, something the US is trying to fix.
“[The Biden administration] has got a Goldilocks situation of having to find a policy that is stringent enough that it encourages investment . . . without being too stringent where automakers just throw up their hands and say it’s not worth it,” said Corey Cantor, senior associate of electric vehicles at BloombergNEF.
Here are important provisions to watch out for:
Defining critical minerals: A decision on whether anodes and cathodes will be defined as critical minerals or battery components will determine where developers can source materials. Developing them as the former would allow manufacturers to get materials from outside North America as long as they were within free-trade countries. Some US companies and labour unions stress that a flexible interpretation would risk sending manufacturing jobs overseas.
Defining free trade agreement: How the Treasury defines a free trade agreement will clarify if Japan and the EU (US allies that have never signed an official FTA) will be included in the tax credit. The US signed a critical minerals agreement with Tokyo on Tuesday and is working on a similar deal with the EU. The workaround has been rebuked by members of Congress for circumventing the legislative branch’s role in international trade.
Exposure to China: Whether the Treasury takes a strict approach to supplies connected to “foreign entities of concern” will be heavily watched by automakers. The IRA states that any materials extracted, processed or manufactured in foreign entities of concern (North Korea, Russia, Iran and China) will be excluded from the tax credit. But China dominates global EV manufacturing and has played a role in building out the US supply chain.
Energy Source is written and edited by Derek Brower, Myles McCormick, Justin Jacobs, Amanda Chu and Emily Goldberg. Reach us at firstname.lastname@example.org and follow us on Twitter at @FTEnergy. Catch up on past editions of the newsletter here.
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