Monday, February 9, 2015

Who Will Help Me Store Some Oil?

Here are a few stories I am thinking about.

First, Thales and the olive presses:

In ancient times there dwelt in the Greek city of Miletus a man called Thales. He was not wealthy, but his wisdom had won him the respect of his fellow citizens. People would often gather to hear him speak, and were struck by the truth of his words. There were some, however, who could not see beyond his worn clothes, and humble circumstances.

“Why do you heed him?” they would say, “ he only questions the good of riches and worldly pleasures because he cannot get them. He is like the fox in the fable – he only calls the grapes sour because they hang way out of his reach.”

One year the weather was exceptionally favorable and the olive trees were laden with olives. The people of Miletus thronged to the owners of the olive presses, but to their amazement, they all met with the same reply.

“You must go to Thales if you want to press your olives; he arranged to hire my press last Winter, and carried it off at the beginning of Harvest time.”

It was soon discovered that every press in the region had been hired by Thales of Miletus. Either by chance, or through his knowledge of the stars, he had foreseen that there would be a great olive crop that year, and with the little money he possessed, had given deposits for the use of all the olive presses in Miletus and the neighboring island of Chios. Everyone, whether they liked it or not, had to hire their press from Thales, and he let them out at whatever rate he chose.

“What a fortune Thales of Miletus must have gained!” people said to each other. “A man could work his life long and not earn so much.”
Second, a story from Oil & Gas Investor (January 2015):
With banks due to redetermine E&P borrowing bases in March and April, Murray expected "there'll be some stress in the bank lending market if oil prices don't correct." ["Correct" being used in opposite of normal sense: to go back up.] This could lead to a "classic example" in which E&Ps dependent on bank debt for development of unconventional plays face large reductions in borrowing bases. Potential borrowing base deficiencies could be compounded further by instances where E&Ps have costly acreage - and meaningful upside - that is yet to be HBP.

"People have been buying hundreds of thousands of acres for a lot of money [...] If they don't HBP that acreage in the primary term of the lease, they're going to lose it. So they're desperate to find some capital to capture that value and prove up the rest of the acreage, despite the low commodity background."

In order to offset commodity price weakness, the mezzanine [lender] will likely factor in some reduction in costs of drilling and fracking additional wells on the remaining acreage [...] "Although the economics aren't that robust at $75 per barrel, once the rig cost and frack costs come down, and you get back to drilling, we'll finance that"
Note that the behavior here is very focused on upside, and retaining the right to upside, rather than protecting against downside. Not only the E&Ps who are "pot committed", but also the lenders who have dry powder and should know better. Note that the drilling to hold production aspect also replicates the incentives that caused the 2012 natural gas crash. And this winter's natural gas is still below $3/mcf.

Third, oil inventories are already at 80 year highs:
"U.S. crude-oil supplies rose by 6.3 million barrels in the week ended Jan. 30 to 413.1 million barrels, the U.S. Energy Information Administration said Wednesday. Analysts surveyed by The Wall Street Journal had expected a gain of 3.7 million barrels. Stockpiles are at the highest level ever in EIA weekly data going back to August 1982. In monthly data, which don’t line up exactly with the weekly data, inventories haven’t been this high since 1930."
Six point three million barrels added to storage in one week is an extra 900,000 per day.

1 comment:

whydibuy said...

The surge in e&p mlp's is a wonder. Since mlps pay out their earnings in hefty distributions, they need ever more capitaL to grow the business. They tend to thrive in a easy credit and firm commodity price environment. The recent times for these partnerships has been a garden of Eden with easy credit and firm and rising oil prices.
These mlps have been in a virtuous cycle the last few years but now events are changing all that. Now they are entering a vicious cycle where oil is cheaper followed by reductions in their bank credit which will further cut their ability to expand leading to more depletions and more credit cuts, etc, etc.
I think these mlp investors are not grasping that times have changed for these investments and many will get burned thinking they have a secure income investment when in reality, they bought into a downward spiral.