Oil continues rally. Saudis, OPEC, ready to cut production?

WTI looks to regain momentum after last week’s price rally. Figures show U.S. crude output down slightly. Meanwhile, price cuts obviously begin to hurt Saudis.

The Sheik.
The Iron Sheik (as portrayed by professional wrestler Joseph Cabibbo) does a fine job here representing the Middle East’s current attitude toward the U.S. oil boom. (Via Wikipedia)

WASHINGTON, Aug. 31, 2015 – Wall Street futures looked awful late Sunday night and early Monday morning, due to even more Chinese government flailing over the weekend. That included news that the Chinese government would simply drop its market support purchases this weekend, while also “punishing” some 200 alleged financial miscreants. This knocked the props out from under stocks trading on the Shanghai exchange, which, in turn, knocked European and U.S. futures down.

Predictably, U.S. trading action was decidedly negative at the Monday morning bell. Stocks began a sickening 100+ point Dow slide, conjuring up images of last week’s tremendous early-week stock bloodbath. But then, mirabile dictu*, as Virgil loved to say, something happened around mid-morning. Reports trickled in that U.S. crude output had been trimmed slightly.

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West Texas Intermediate (WTI), which had begun a cruise back down toward $40 bbl., suddenly started creeping back up.

WTI’s move accelerated around 11:30 a.m. EDT when news crossed the wires that OPEC (read Saudi Arabia) was getting nervous about the worldwide softness in oil prices. According to a report just posted on CNBC,

OPEC is concerned by the drop in oil prices—trading near multi-year lows—and is ready to talk to other producers, an article in an OPEC publication issued on Monday said.

“Today’s continuing pressure on prices, brought about by higher crude production, coupled with market speculation, remains a cause for concern for OPEC and its members—indeed for all stakeholders in the industry,” the commentary in the latest OPEC Bulletin said.

The Organization of the Petroleum Exporting Countries renewed its openness for dialogue with other producers. OPEC has refused to cut its own output without help from outside producers such as Russia, which have also declined to lower supply.

WTI** had actually begun to catch a strong bid late last week when its per barrel price dipped below $38. At first, the Maven thought this might be a dead cat bounce or, perhaps, a more vigorous snapback rally before the price again began to dive toward what some oil soothsayers believe is a plausible bottom at $30 bbl.

But the price of WTI accelerated on the plus side with astonishing speed on Friday, up roughly 5 percent in a single day by market close. Both the media and the Maven believed this action was due in part to previously delayed reports noting that the Saudi Army had begun a ground invasion of ISIS positions in northern Yemen, potentially placing oil production on the Saudi peninsula in jeopardy.

This may have been true enough. But we were also getting little hints that in order to maintain their own and OPEC’s deliberate, price-cutting overproduction of oil—the better to force the U.S. to shut down much of its massive, fracking-era oil production—the Saudis were understandably taking a big hit on profitability. Much of that massive profitability had been used by the Saudi royal government to subsidize loads of price supports and other goodies for that country’s restive general population.

But with that high level of profitability vanishing, the Saudis had been forced to vastly increase borrowing, à la U.S.-style QE magic, to keep up its high level of subsidization, rapidly eroding its huge budget surplus to the point where sovereign balance sheets were starting to make Saudi government accountants more than a little nervous.

To avoid getting into the kind of budget trouble that continues to plague borrow-and-spend Western governments and economies, someone apparently sounded the alarm. All of a sudden, the Saudis want to talk. (They might also be nervous about the impending Iranian re-entry into the oil market, which would gradually bring a massive amount of additional production back on line.)

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It could very well be that the OPEC jawboning is about to start, given Saudi nervousness over their own futile (but still nasty) attempt to keep market share and given the virtual bankruptcy of countries like Venezuela and Iran which spent any surplus they might have had, along with their economic seed corn.

Well, that did it. As we write this paragraph at around 12 noon EDT, WTI has completely reversed field and is now cruising along at $47.33 bbl., sharply off Monday morning’s lows and up over 4.5 percent ($2.21 bbl.) in less than half a day’s trading action.

Since energy is a substantial portion of all major market averages, markets are trying to make a comeback from this morning’s China-influenced selloff. The Dow Jones Industrials (DJI) currently stand at just under 16,000, off around 45 points from Friday’s close. The S&P 500 is at 1981 and change, off 7. And the tech- and small-cap laden NASDAQ is sitting around 4815, off about 13.

There’s no guarantee that we’ll close on a positive note today. In fact, this nervous, capricious, HFT-driven market could quickly go to hell in a handbasket once again. All longstanding support lines were broken last week, indicating to technicians at least that we’ve entered at least a short-term bear market if not a correction.

But 2015 has been a year of continual surprises, albeit mostly negative ones. Which means, of course, that no one—including even the Maven, alas—totally knows what he or she is talking about.

Even so, something feels different this morning. Buyers are perceptibly beginning to sneak back in to certain sectors, particularly refiners and even a couple of nearly-destroyed coal stocks. If the energy patch should firm up even slightly next month, the wobbly U.S. economic picture could change in unpredictable ways. This situation bears careful watching, but as yet requires little if any commitment at the moment.

Today’s trading tips

We confess to having thrown a bit of caution to the winds, adding some shares to our currently money-losing position in Valero (symbol: VLO), a major Texas-based U.S. refiner. We also added to our favorite refiner position, high-yielding MLP-structured Calumet (CLMT), a holding we’re actually still up on for the year.

Today, we are contemplating adding a few more shares to another Texas-based refinery position, Tesoro (TSO), but the price isn’t going our way at the moment. We’re even contemplating getting back into another old fave, Ohio-headquartered Marathon Petroleum (MPC), yet another well positioned and well run refiner.

All these companies and others are levered to U.S. crude, and, increasingly, to shale production from the rich Permian Basin (West Texas and eastern New Mexico) and the almost-as-impressive Bakken Shale formation that’s been enriching North Dakota, at least until a few months ago.

We’re under no illusion that oil is going to skyrocket back up to $80 bbl. any time soon. But our positions would get happier if oil continued to hover around the upper range of the Maven’s original $40-$60 2015 target zone.

Crackerbox Palace: Crude oil up over 5 percent Friday

We also slipped a few shares of Ford (F) into one of our portfolios. SUV and truck sales have picked up for most manufacturers due to a long-lasting drop in prices at the pump—although those prices should have dropped further in August, we think. Most auto companies generate their best profits on these classes of vehicles, and Ford, with its innovative new truck line, could stand to benefit most if gasoline prices remain reasonable.

Other than this, however, we’re still quite cautious on all markets. August-October tends to be nervous-time for traders, and anything can happen and probably will. So we’re going to keep some powder dry.


*Mirabile dictu. Frequently used phrase in Virgil’s epic poem, “The Aeneid.” Best translation is probably “miraculous to say.” Or, perhaps in the parlance of those breathless 11 p.m. TV news leads, “And now, this amazing development!”

**WTI (West Texas Intermediate). We should note that the world benchmark oil price is traditionally based on the price of what’s known as Brent Crude, the price of oil that’s extracted from Europe’s North Sea by several countries. That price is generally some $10 more than that of WTI. In this column, however, we typically cite WTI because its price more closely influences the profitability of several U.S. refiners we follow—refiners whose facilities are located in and around regular and shale oil fields. That gives these refiners a distinct pricing advantage when WTI is lower than normal as measured against Brent. If these refiners get their oil at a lower price than other refiners, they have a competitive advantage when selling gasoline, diesel and other oil refinery products.

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