M. Juan Szabo and Luis A. Pacheco
THE DECLINE STOPS, BUT THE RECOVERY IS WEAK
The anticipated decision of the U.S. Federal Reserve (FED) on monetary policy, plus the shrinking of oil inventories in the U.S., the increase in geopolitical risk, and the persistent limitations in the global crude supply impacted oil prices. The market, faced with these signals, seems to be reorienting its focus, no longer on its concerns about future demand but on what may happen with supply.
We believe the news that the FED has initiated monetary easing will have a greater eventual response than that shown this week. With a weaker dollar and better macroeconomic prospects, there could be additional positive reactions over the coming weeks.
Fundamentals
The week was dominated by news from the Federal Open Market Committee (FOMC) meeting, which gathered to review economic conditions and consider monetary policy decisions. In particular, the Federal Reserve announced a reduction in the reference rate by half a percentage point or 50 basis points. While the cut was highly anticipated, its size surprised many economists and rate observers. The initial reaction of the oil market was moderate, although it alleviated concerns of a sharp economic landing. However, as we mentioned above, the response is expected to intensify as the decision percolates into market perception. However, it's difficult to gauge going forward since the rate cut, though not its dimension, was already factored in by the market.
Commercial crude oil inventories in the U.S. fell to their lowest level in a year—excluding the strategic petroleum reserve. According to the Energy Information Administration (EIA), in the week ending September 13, crude inventories fell by 1.6 million barrels to a level of 417.5 million barrels, compared to analysts' expectations of a 500,000-barrel reduction. In Cushing, Oklahoma, stored crude fell by 2 million barrels. At this WTI crude storage and transaction center, inventories have reached 22.7 million barrels, the lowest level in a year and close to their minimum operational levels, resulting from 10 negative reports over the last 11 weeks. The typical Wednesday crude inventory report caused a second positive impact on the global oil market's perception of prices.
Supply disruptions in the Gulf of Mexico, resulting from preventive measures ahead of Hurricane Francine's arrival, still impact offshore oil and gas production in Louisiana, although nothing remains of its wake. U.S. crude production shows a reduction of around 100,000 barrels per day (bpd) compared to pre-Hurricane Francine levels. Drilling activity, strongly associated with generating additional production, maintains a declining trend; this week, two units were taken out of service, according to the Baker Hughes report.
The other major interruption in crude supply to the market corresponds to the closure of fields in Libya, which are still affected by the internal dispute over managing oil revenues, in an attitude of “Dog in the Manger” in the two factions.
While Western economies have been fighting inflation for the past two years, China seems to be experiencing the opposite. Deflationary pressure is building up in the country. This represents a potential danger for economic prospects, as it would tend to reduce wages and salaries, which could trigger a domino effect of decreased spending, lower corporate income, and subsequent layoffs. It's not what the Chinese economy needs to get back on the path of growth, and it would translate into lower oil demand, at least until well into 2025. Some banks estimate that the Chinese government has been very timid in using fiscal stimulus tools.
Geopolitics
The geopolitical risk associated with oil supply increasingly depends on more situations in full development. To the declared wars between Russia and Ukraine and the conflict between Israel and Hamas and its regional repercussions, whose outcomes have become changeable. The economic competition between the U.S. and China and the associated tensions in the South China Sea, through which a third of world trade passes. Moreover, the uncertainty that emerges from the U.S. political process as the presidential elections approach is a new factor to discern.
In the war between Ukraine and Russia, the fundamental change has been Ukraine's success in bombing, mainly through drones, targets in Russia related to fuel depots, arsenals, and energy infrastructure. It is estimated that these attacks may force Russia to reduce its crude production below millions of barrels per day. Although Ukrainian military activity doesn't have much to do with Russian oil production, it has indirectly forced the redistribution of investments, resulting in less investment available for generating production potential.
Meanwhile, in the Middle East, military operations are shifting towards northern Israel, specifically against the terrorist group Hezbollah, entrenched in southern Lebanon and constantly launching missiles against targets in Israel. Having neutralized a good part of Hamas terrorists in the Gaza Strip, Israel seems to have decided that it has to confront Hezbollah using a novel war strategy.
This week, in an agile and unexpected operation believed to have been carried out by the Israeli intelligence service, the pagers that Hezbollah members used exclusively and which had been intervened somewhere along the supply line detonated simultaneously.
The simple yet sophisticated operation sought to identify and take down Hezbollah members embedded in the civilian population while minimizing impacts on non-combatants. The next day, the procedure was repeated, this time on the walkie-talkies also used by Hezbollah terrorists. Subsequently, the Israelis carried out a preventive air strike in Lebanese territory, in which about 1,000 missiles and their launch equipment were destroyed as they were being prepared for launch. Hezbollah responded with a massive attack of about 180 missiles directed at northern Israel.
Additionally, in an attack on a building, a stronghold of the extremist group, in a southern suburb of the Lebanese capital, at least 14 people died in the “selective” attack. This included Hezbollah's senior military commander, Ibrahim Aqil, and other members of Hezbollah's military command. The Hezbollah militia (with Iran's support) has vowed to avenge the wave of Israeli attacks this week in Lebanon.
The corollary of this recent saga is that the probability of a large-scale confrontation could be on the agenda, which would have an exponential effect on the geopolitical risk of the area. This risk that is probably underpinning crude prices or at least has the markets very nervous.
Other Energy News
· Exploration and resource development in the Atlantic Basin is now more alive than ever, following the enormous developments off the coast of Guyana led by ExxonMobil and TotalEnergies' plans to exploit the resources discovered in Guyana's neighbor, Suriname. TotalEnergies, which partners with APA Corp off the coast of Suriname, has already made several discoveries in the area. Companies are expected to make the final investment decision (FID) to develop part of the resources as early as next month, according to Bloomberg sources.
· The sale of battery electric vehicles (BEVs) in the European Union fell by 44% in August compared to the previous year. The European Automobile Manufacturers Association, ACEA, called for government measures to reverse the trend. The total market share of battery electric vehicles fell to 14.4% from 21% the previous year. In August 2024, gasoline car sales fell by 17.1%, and the four key markets recorded significant drops: France (-36.6%), Italy (-18.8%), Spain (-17.4%), and Germany (-7.4%). Gasoline cars now represent 33.1% of the market, compared to 32.6% in August of the previous year.
· The Colombian Government suspended peace talks with the leftist guerrilla group National Liberation Army (ELN) following an attack that killed two government soldiers and injured more than two dozen. The decision is another blow to President Petro's “total peace” policy, which sought to eliminate the ELN from its role in the South American country's six decades of internal armed conflict. The measure could increase attacks on oil facilities, which are already concerning.
· War risk insurance premiums paid by ships when navigating the Red Sea were estimated at up to 2% of the ship's value, almost triple the 0.7% quoted in early September. The increase took effect after the attack on the tanker Sounion on August 21 and the resulting saga of the tanker on fire adrift at sea.
· Uncertainty continues over the delivery of Azerbaijani gas to Europe after the gas transit agreement with Russia ends. Sources from both sides confirmed that there were no negotiations on the matter.
Price Behavior
Midweek, the oil market received a boost with the Fed's decision and the publication of U.S. crude inventories by the EIA. Tensions in the Middle East and Eastern Europe, which increase geopolitical risks, should also lead to a further rise in prices. However, the price increase has been limited by well-founded concerns surrounding oil demand prospects in China.
At the close of markets on Friday, September 20, the benchmark crude Brent and WTI were trading at $74.5/bbl and $71.0/bbl, respectively, an increase of around 4% compared to the previous week.
VENEZUELA: Still An Oil Country?
Venezuela's political situation is not only particular but probably unique. Unlike other oil-producing countries, where the industry is carefully nurtured because it is the main base on which the economy rises, the regime has ignored, destroyed, embezzled, and squandered the great opportunities that oil has provided over the past 25 years.
Oil has been the architect or cause of many political changes. It bolstered Gómez's dictatorship but also contributed to the birth of democracy and the country's modernization, to mention an example. It's not difficult to argue that the dramatic fall in oil prices at the end of the 20th century, coupled with the political and economic crisis of democracy, contributed to Chavismo's electoral victory in 1998. A political change that was sold as necessary and hopeful but which ultimately was a leap into the void.
Although Venezuela's oil industry is in ruins today, it still provides the necessary resources for the regime to survive in a diminished economy and amid a humanitarian crisis. Unlike other countries under sanctions, such as Iran and Russia, the Maduro regime, in a sum of incompetence and negligence, has let the oil industry languish, using sanctions as a convenient excuse.
It is in this context that one must analyze the sanctions. Given the ineffectiveness of the regime's oil management, the only incremental oil revenues depend on the goodwill of licenses granted to a small group of private companies. It should be said that the main interest of these companies is not to recover the industry but to recover part of what PDVSA owes them, incidentally, the only debt being paid. The consideration for these licenses was the regime's promise to facilitate the recovery of democracy.
Democratic countries insist on pressing for political transition and for the new legitimately elected government to take office on January 10, 2025. Among the pressure mechanisms at hand is the continuity or not of oil sanctions. Now, there is debate in the U.S. about whether these licenses, granted in exchange for deceptions, should be withdrawn to incentivize the regime towards a peaceful political transition.
The week was plagued with unexpected but not surprising events. The president of the 2020 National Assembly, Jorge Rodriguez, revealed that Edmundo González Urrutia (EGU), before receiving safe conduct and leaving for asylum, signed a letter accepting the decision emanating from the Electoral Chamber of the TSJ. He committed not to engage in political activity once he arrived in Spain. He also showed videos/photos of a meeting held at the Spanish Embassy in Caracas, where the President-Elect is seen, accompanied by Vice President Delcy Rodríguez, her brother Jorge, and a Spanish embassy official.
Edmundo González Urrutia recounted that, indeed, Maduro's representatives, Delcy and Jorge Rodriguez, presented themselves at the embassy and conditioned his departure on signing the text. After long negotiations and under coercion, he signed, understanding that documents signed under threat and coercion have no validity before the law.
Undoubtedly, it's a diplomatically complex situation. That this event occurred at the Spanish Embassy, in the presence of the Ambassador, where unauthorized videos and recordings were taken. Meanwhile, a Spanish air force plane waited in the Dominican Republic for three days for the results of the negotiation, to then transfer the exile to Spain.
In any case, since he arrived in Madrid, EGU has dedicated himself to contacting high-ranking Spanish political figures. He has also sent a message to the European Parliament, which has since recognized him as president-elect, as did the Spanish Congress of Deputies and Senate. However, the Sánchez Government has not accepted this recommendation. The same happened in Colombia, where the House of Representatives approved a proposition to recognize EGU as the president-elect of Venezuela.
In a repetition of an already much-used tactic, the regime captured Spanish citizens, a Czech, and four Americans, accusing them, without presenting evidence, of being “terrorists” and undercover agents in an assassination plot promoted by the Venezuelan opposition. It's not the first time the regime has dedicated itself to arresting foreign citizens who are subsequently used in negotiations. To add to the farce, Attorney General Tarek William Saab requested an arrest warrant against Argentine President Javier Milei.
The regime continues to cling to its economic policy of high public spending and anchoring the official dollar, which is becoming increasingly costly and difficult to maintain. The logical result of this policy is the scarcity of foreign currency for imports, which is widening the gap between the official and parallel exchange rates, currently close to 20%, and which is pushing inflation.
Oil Operations
During the last week, without many events to report, crude production remained constant. Refining has not been able to recover, and exports continue with their problems of diluent limitations for the Merey grade blend.
Crude production averaged 837 thousand barrels per day (Mbpd), unchanged from the previous week. The geographical distribution of production was as follows:
- West: 193 (Chevron 89)
- East: 140
- Orinoco Belt: 504 (Chevron 105)
- TOTAL: 836 (Chevron 194)
The Amuay and Cardón refineries have not been able to start up since the shutdown on September 12 due to alleged failures in power generation. As of Thursday, two distillation towers were put into operation, but a series of operational issues in other process plants have not been resolved, so that the national average processing barely exceeds 150 Mbpd. These failures affect the supply of fuels for the local market, which for now depends on meager production from national refineries and volumes received from swaps with Repsol and inventory that must be running out.
Exports to the U.S., through Chevron, are averaging 242 Mbpd. To Spain, through Repsol, 78 Mbpd have been sent. Exports to the Far East, with their specification problems, are averaging 366 Mbpd and to Cuba 35 Mbpd.
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