El Taladro Azul Published originally in Spanish in LA GRAN ALDEA
M. Juan Szabo and Luis A. Pacheco
Every week, in a normal world, oil market analysts review the variables that determine the dynamics of the oil market. The policies of central banks, the uncertainty between a future recession or a “soft landing”, the movement of commercial crude oil inventories, doubts about the Chinese economy, and whether the production quotas of the OPEC+ countries are met, are some of those variables.
For two weeks now, since the terrorist group Hamas attacked Israel surprisingly and lethally, the oil market has focused its interest on the development of that war and its potential regional expansion, relegating traditional variables to background noise or an agent of volatility, and assigning a “war premium” to oil prices.
The situation is confusing, to say the least. Iran's threats to cut off supplies to countries that favor Israel, the crossfire in the Golan Heights between Israel and Hezbollah, and the interception by a US battleship over the Red Sea of missiles and drones, launched from Yemen by Houthi rebels, presumably heading towards Israel, are fueling fears that the conflict will take on the proportions of a regional war.
However, Israel's failure to unleash a massive assault on the Gaza Strip, President Biden's presence in Israel accompanied by a strong contingent of the US Navy in the Mediterranean, the surprise visit of the Secretary General of the UN, António Guterres, to Egypt's border with Gaza, are signs of interest in containing the expansion of the conflict, which could interrupt crude oil production or transportation outside the Middle East.
The US, in particular, is playing on all boards of simultaneous geopolitics. On the one hand, it deploys active shuttle diplomacy between Israel, Jordan, Egypt, and Saudi Arabia, to underline support for Israel and condemn Hamas. On the military side, its fleet serves as a complement to the Israeli “steel dome”, and functions as a deterrent force to keep Iran and its “alter ego” Hezbollah at bay.
The US also announced that it would begin replenishing volumes in its SPR for energy security reasons, although not necessarily at current price levels. In parallel, the Biden administration temporarily relaxed oil sanctions on Venezuela, a decision whose implications we will analyze in the section dedicated to Venezuela.
At the close of the markets, on Friday, October 20, the Brent and WTI crude markers were trading at $92.16/BBL and $88.08/BBL, respectively, after having surpassed $93/BBL and $90/BBL the previous day, to these same raw ones. Prices, if you like, are modest, given the situation.
In short, with the winds of war as a new element, coupled with the traditional market catalysts that affect prices, and without any real change in supplies and deliveries of crude oil and products, prices have remained at relatively high levels.
Prices will remain elevated as long as the risk of a regional expansion of the conflict between Israel and Hamas persists.
Venezuela
Hope and Mirages
The Venezuelan political-economic environment is in a state of general turbulence. The most imminent thing is the holding of the primary elections to choose the opposition candidate this Sunday, October 22. We must recognize the solidity and determination of the Primary Commission, which remained firm in its determination, despite all attempts to sabotage from both ends of the political spectrum.
Late on Sunday, October 22, it was learned that the primaries had been held successfully, with a greater participation than the best expectation; Preliminary counts point to an overwhelming majority for María Corina Machado. However, to no one's surprise, the regime blocked the internet, delaying the final scrutiny process: proof of its anti-democratic disposition.
Perhaps the most significant news in this complex environment has been the signing of an agreement between the regime and the Democratic Unitary Platform (PUD), outlining a route to free and verifiable elections, regularization of candidates and political parties, and holding of primaries. An additional agreement on the protection of the republic's assets was also signed.
The agreements were signed on the island of Barbados on October 17. These are very general documents, with many gaps that require additional agreements. The agreements, for the most part, represent only a promise that the regime agrees to comply with what is established in the Constitution; an implicit recognition that, to date, that has not been the case.
As expected, the day after the signing, the Biden administration published six OFAC Licenses that essentially suspend part of the economic sanctions, in the hydrocarbon sector, the gold sector, and the trading of debt papers, among other activities. The continuity over time of all these licenses is said to be conditional on the tangible fulfillment of the intention of the signed agreements, although this condition is not explicit in the licenses.
After the signing, and as a counterweight to the regime's statements about what was agreed, the US authorities revealed a detail of special importance. This is what José Ignacio Hernández called the “Blinken appendix”, an early checkpoint to ensure that the process maintains the desired course. Secretary of State Anthony Blinken himself detailed that, before November, the regime must begin the release of prisoners with US citizenship and political prisoners, and must commit to eliminating candidate disqualifications. The intention of US policy seems to indicate that, in the event of an initial non-compliance, in November they would return the sanctions process to the state before the agreements.
As far as the hydrocarbon sector is concerned, the fundamental changes to sanctions are described in General License 44 (GL44); and in clarifications made in writing by OFAC. The changes appear to be broader than expected, but their temporality and conditioning limit their impact.
Particularly, General License No. 44 authorizes the following for 6 months, without automatic extension:
• Production, extraction, sale, and export of oil or gas from Venezuela.
• Payment of invoices for goods and services related to sector operations.
• New investments in sector operations, and
• Delivery of oil and gas to creditors of Venezuela or PDVSA as part of payment
All the above refers to actors that fall under the jurisdiction of the North American nation and implicitly extends to the so-called secondary sanctions, which limit non-North American actors.
Likewise, OFAC clarifies on its website that prohibitions on the marketing of oil and gas from Venezuela to the United States are suspended, as well as prohibitions on the payment of taxes, royalties, costs, tariffs, dividends, and profits related to operations of the sector or transactions involving PDVSA. The latter, by the way, could generate a secondary market for shares of the Joint Venture Production Companies (JV), in which some B partners could offer all or part of their shares at par with PDVSA shares, limited, by now, to maintain a state majority in the MS.
This temporary suspension of sanctions leads to two possible scenarios. One, which we will call the Authoritarian Abortion Scenario, and the other the Democratic Gestation Scenario. The Scenarios differ in the fulfillment or not of the commitments by the regime and the willingness of the US to enforce the “red line”.
In the Authoritarian Abortion Scenario, the US would reinstate sanctions on the pre-signing state in Barbados, with an apocalyptic but unlikely variant of also suspending Chevron's original license (GL32). In that case, the economy would suffer a setback that would in turn worsen the already difficult conditions facing the regime in the face of a presidential election. Under these conditions, a possible cancellation of the elections or a call for early elections cannot be ruled out, with the advantage of arbitrary disqualifications of candidates and disoriented opposition.
The Democratic Gestation Scenario implies that compliance with the agreements was considered acceptable by the US and the licenses issued on October 18 remain valid over time (including GL44), which would allow a series of developments in the oil sector that we will analyze below.
We will analyze the potential political-economic effects of this process, but first, we will review the current situation of the operational structure of the hydrocarbon industry in the country, in particular production operations, to establish a baseline and be able to estimate the reaction capacity in the optimistic scenario.
Venezuela currently produces around 740 Mbpd of crude oil, of which approximately 360 Mbpd are produced by Joint Venture companies (JV), and the rest comes from PDVSA fields, although some of these are operated by contractors.
As a result of the migration process of the Oil Opening contracts of the 1990s, and the distribution of the Orinoco Belt into multiple JV, in the process called “Magna Reserva”, almost 50 JV were formed in the country's sedimentary basins, all of them with a majority shareholding of the State. Of this wide range of companies, and after a process of expropriation, resignations, abandonment, and liquidation due to attrition, only 16 companies remain, of which 2 have no production and 5 produce 3000 bpd of crude oil or less.
JV | Production MBPD | PARTNER B | JV | Production MBPD | PARTNER B | |
PetroBoscan | 54 | Chevron | PetroDelta | 3 | CTEnergy | |
PetroIndependencia | 10 | Chevron | PetroSucre | 2 | ENI | |
PetroPiar | 66 | Chevron | PetroParia | 0 | ENI | |
PetroIndependiente | 1 | Chevron | PetroGüiria | 0 | Inepetrol | |
PetroWarao | 3 | Perenco | PetroRegional del Lago | 9 | Maurel & Prom | |
PetroMonagas | 70 | Russia | PetroQuiriquire | 8 | Repsol | |
PetroSinovensa | 89 | CNPC | PetroCabimas | 3 | In Litigation | |
PetroCarabobo | 6 | Repsol | PetroZamora | 18 | In Litigation |
We estimate that of these 16 companies, only 6 private partners (B partners) have the financial solvency to initiate a reactivation in light of the temporary suspension of sanctions, namely: Chevron, Repsol, ENI, Maurel & Prom, CNPC and Perenco.
In summary, only these 16 joint companies could react to the relaxation of sanctions, but each one has its strategic portfolio (which may or may not include Venezuela), and the lifting of sanctions, even if they were maintained over time, is not a sufficient condition to induce these companies to expand their exposure to Venezuelan country risk. Some of these companies, especially those with which PDVSA has debts, could choose the “Chevron” route: carry out operations focused only on the recovery of their debts.
An aspect that must also be considered in an environment of suspended sanctions is the financial instrumentation process that must be established or reestablished. Although the license authorizes it, the flow of money between the international and Venezuelan financial systems requires work and time, and solving the obstacles associated with the over-compliance that banks have been implementing with Venezuela and in particular with PDVSA. So far, only Chevron has the process designed and operating.
In this environment of suspended sanctions, it is necessary to distinguish between the activities that Chevron already carries out and those that would now be added to it. In turn, in the latter, there are two categories: 1) the mere sale of Venezuelan crude oil in more commercially attractive markets, redirecting the crude oil that today goes to the Asian market with discounts, and 2) the activities of generating incremental production for export under advantageous conditions.
The relaxation of sanctions can also impact the supply of fuel for the domestic market, by allowing the import or exchange of crude oil for refined products, under less onerous conditions than today, and, on the other hand, by facilitating the procurement of parts and accessories for refineries.
For change of destination exports, only requires implementing the flow of funds. The management of the foreign currency disbursed by the buyer must follow a course drawn up to comply with the limits set between banks until reaching the Central Bank of Venezuela, or they could hire Chevron's "trading" services to use a structure already in operation.
Projects to begin the recovery and development of production in the MS that decide to do so, similarly to Chevron, will have to solve problems related to the flow of foreign currency, obtain permits, contract drills, build locations and roads, drill wells, and connect them to the production system; This process requires time, which only in rare cases would be less than 6 months.
With all this in mind, we have estimated the incremental income that would result in the Democratic Management Scenario, at least over the next two years.
The oil income is estimated utilizing prices of Venezuelan crude oil (Merey 16) in the Gulf of Mexico market: they start at $62/BBL and gradually rise until reaching $76/BBL at the end of the period. On the other hand, the exported volumes are net of those used for Chinese debt and shipments to Cuba, which, we assume, will continue.
The graphs show that:
· Except for Chevron, production growth would begin around mid-2024, as a result of drilling in Urdaneta Oeste, Barúa/Motatán, and the Orinoco Belt.
· Destination change transactions are the easiest to implement and once all the crude oil available for this change materializes, incremental income could reach $500 million per month.
· During the year 2024, income from the sale of hydrocarbons would practically double compared to current income; these amounts do not include income from the sale of fuels in the domestic market.
This scenario describes a gradual growth in production and trade activity, accompanied by a process that would lead the country to free, fair, and verifiable elections that would lead the country to an internationally recognized Government.
If the Democratic Abortion Scenario were to occur, today's difficult conditions would be weakened even further, with impacts difficult to estimate for the national economy and politics.
Hydrocarbons Sector.
Current production seems to have reached a plateau, not being able to reduce deferred production due to different failures in services, this week we find ourselves with a lack of continuous electrical flow, problems with the distribution of diluents, and operational setbacks in the dehydration of the crude oil from the Belt. The low availability of light crude oil to dilute crude oil from the belt guided the mixing units to produce more DCO (Diluted Crude Oil) instead of Merey 16.
Baker Hughes reports only one active rig in the country, Drilling for PetroMonagas.
Production: the geographical distribution of production for the last week is shown below in MBPD:
· West: 130 (Boscán 54)
· East: 150
· Orinoco Belt: 460 (Chevron 78)
· Total: 740 (Chevron 132)
Chevron's production is in line with production recently.
Refining: Venezuela's refining system processed 300 MBPD of crude oil and intermediate products. As of Sunday, October 15, the catalytic cracking plant in Cardón was stopped, reducing gasoline production for the national market, which now depends on supplies received from Italy.
Exports: Exports for October are on track to average 550 MBPD of crude oil and 70 MBPD of products. Exports handled by Chevron are averaging, 147 MBPD
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