Lower oil prices here to stay, says CQS

Lower oil prices here to stay, says CQS

The recent decline in oil prices is a structural shift that is unlikely to be reversed over the next decade, argues CQS founder and chief executive Sir Michael Hintze.


In a January 2105 CQS Strategy Perspectives report titled Is this the end of OPEC?, Mr Hintze said many market participants have been surprised by the “severity and rapidity” of oil’s price decline.

The current situation is similar to the sharp fall in 1985–1986, following which oil prices traded in a lower range for “some time”, he said.

“However, this time around there are reasons to believe the decline is structural due to the changes to the market brought about by [US] fracking and Saudi Arabia no longer being willing or able to act as a swing producer,” Mr Hintze said.

At its last meeting in November 2014, the oil producers’ cartel, OPEC, surprised markets by announcing it would not cut output in order to try and put a floor on the falling price of oil.

“This inaction on the part of the Saudis, we believe, signalled that its role as the enforcer of cartel discipline was over,” Mr Hintze said.

This “enormous structural change” has come about for two reasons, he said.

First, the supply-side problem created by fracking in the US cannot be solved by cutting production and driving prices back up, Mr Hintze said.

Second, the fiscal strain on OPEC countries – including Saudi Arabia – means that as long as the marginal cost of production remains below the current market price “there can be no discipline wrought on oil output”, he said.

Most oil-producing countries will cover their marginal cost at current prices, but that is not the problem, Mr Hintze said.

“For most of the producers, what matters is the price of oil that allows the country to balance its books,” he said.

The realities of domestic budgets will force OPEC countries to keep pumping oil, even as prices fall further, Mr Hintze said.

The consequent falling price of oil will substantially increase the cost of financing new production, meaning that many marginal fracking projects in the US will be shuttered, he said.

“Nevertheless, that does nothing to alter the structural change wrought by the fracking industry nor the budgetary challenges most oil producers face,” Mr Hintze said.

“The ‘new normal’ in the price of oil is a structural shift that is unlikely to be reversed over the next decade,” he said.

 

Lower oil prices here to stay, says CQS
investordaily image
ID logo
promoted stories

Appointments

investordaily image

AMP names incoming chief risk officer

Jessica Yun

investordaily image

Antares Equities hires new director

Staff Reporter

Brad Fox

Former AFA CEO appointed to boutique board

Staff Reporter

Analysis

investordaily image

Warning lights flashing on Aussie equities

Roy Maslen

investordaily image

What’s in store for the economy in 2018?

Frank Uhlenbruch

ST Wong

Busting common passive investing myths

ST Wong