Political Incompetence Could Drive Oil Prices Up

Oil prices are ascending in concert with a rising stock market and an expanding sense of non-pessimism about the global economy, yet the supply of cheap oil remains far greater than demand.  Huge amounts of $5 cost oil is being moth-balled by OPEC and there is no shortage of oil inventory above ground, much of it floating at sea.   So the fundamentals of near term oil supply and demand imply lower prices but they are being overpowered by speculators who want to own oil as an investment category.

There are, however, some “green shoots” of real oil shortage.  Iraq and Nigeria are both looking dicey.  In Iraq security operations for the oil exporting infrastructure will soon be handed over from the U.S. to Iraqi, putting them at increased risk.   Meanwhile terrorism is increasing on the ground as the “surge” tactics of enlisting Sunni support are being abandoned by the Shiite government.  More recently the Kurds announced they are planning to begin exporting oil without Federal permission, not a tactic likely to be accepted peacefully.  In Nigeria there are new protests against the government for rigging the last election and for widespread corruption.

Nobody can know if or when oil exports from Iraq and/or Nigeria will begin declining due to these political problems.  But in Venezuela it is clear that the time has come when its declining oil production (off 8% y/y) is likely to decline much more rapidly.  Pres. Chavez is seizing hundreds of millions of dollars of foreign oil production equipment belonging to contractors who have not been paid and who therefore are withdrawing from their assignments in Venezuela.  There’s little question that Venezuela’s state oil company will be unable to keep the flow from declining further without the help of western contractors whom Pres. Chavez has now cheated out of their wages and taken over their assets to boot - as though it were the corporations who are to blame.

Iraq, Nigeria, and Venezuela are three vital oil exporting nations.  Problems in those countries stemming from political incompetence could well cause a decline in OPEC output well beyond what is planned by OPEC.  If so, the day when a fundamental reason for higher oil prices may come more quickly than is otherwise expected.

All this worth keeping in mind as we observe the oil market - even though it has had little impact to date and may or may not have a great deal of impact for some time.  The immediate cause of higher prices now is speculation, pure and simple.  Speculation, unlike fundamental supply and demand forces, can turn on a dime, so I would not characterize the current oil price rally as having much predictive power.

Here is a Bloomberg report on the situation in Venezuela:

Venezuela Seizes 60 Oilfield Service Company Assets (Update2)

By Matthew Walter and Daniel Cancel

May 8 (Bloomberg) - Venezuelan President Hugo Chavez seized assets from 60 oilfield services companies including Oklahoma-based Williams Cos., using a law the national assembly passed yesterday.

Employees at state oil company Petroleos de Venezuela SA worked through the night to take over operations from companies that provided services such as water and gas compression and maritime support, Chavez said. Venezuela’s benchmark government bonds fell the most in 2 1/2 months.

“Today, the private services companies disappear, we don’t need them, the people and workers can do the labor and be more efficient,” Chavez said. “We’re going to bury capitalism in Venezuela.”

PDVSA, as the state oil company is known, is pressing foreign oil services companies to lower their prices as growing debts hamper oil output. Production in Venezuela, the biggest oil exporter in the Americas, was down 8.4 percent last month from a year ago, according to Bloomberg estimates, and services firms have idled rigs this year because of past-due payments.

The government seized two gas injection units called El Furrial and PIGAP II from Tulsa, Oklahoma-based Williams Cos., the company said today in a statement. Williams said April 30 it had declared PDVSA in default for non-payment and might cease operations in Venezuela.

‘Available Options’

“We’ll pursue all available options including negotiating with PDVSA,” Williams spokeswoman Julie Gentz said today in an interview. “It may also include arbitration.”

U.S. oil giants Exxon Mobil Corp. and ConocoPhillips have taken their investment disputes to international arbitration after their assets were seized by Venezuela in 2007.

Venezuela still owes about $10 billion for unpaid nationalizations, according to Ecoanalitica, a Caracas-based economic consulting firm.

Chavez also confirmed that PDVSA has taken over the SIMCO Consortium, which was operated by Aberdeen, Scotland-based John Wood Group Plc.Bobbie Ireland, a spokeswoman at the Wood Group, said yesterday in an e-mailed statement that PDVSA had taken control of its contract, and that it’s in a “strong contractual position” to recover money due.

PDVSA owed service contractors $13.8 billion at the end of 2008, El Universal newspaper reported today, citing a year-end report sent to the country’s national assembly.

‘Liberated’ Assets

Chavez didn’t provide names of all of the companies whose assets he said would be “liberated.” Schlumberger Ltd. and Halliburton Co., the world’s biggest and second-biggest oilfield services companies, both operate in Venezuela. A Halliburton spokesman declined to comment today, and Schlumberger didn’t return a call.

The law approved yesterday by the National Assembly stipulates the government will pay book value for the nationalized assets using cash or securities, after deducting labor and environmental costs. Under the statute, the Oil and Energy Ministry is required to publicly identify companies with assets subject to seizure.

Oil and Energy Minister Rafael Ramirez said today the government has seized 300 boats, along with water injection operations on Lake Maracaibo, a center of oil production, and gas compression units in eastern Venezuela. PDVSA will absorb more than 8,000 employees from subcontractors, he said.

‘Reducing Costs’

“These intermediary companies speculated, and took a large part of our oil earnings,” Ramirez said yesterday on state television. “With this, we’ll continue reducing costs in our oil industry.”

PDVSA will save $700 million by assuming the “primary” service activities from private companies, Ramirez said.

The yield on Venezuela’s 9.25 percent bonds maturing in 2027 surged 54 basis points, or 0.54 percentage point, to 14.56 percent at 4:15 p.m. in New York, according to JPMorgan Chase & Co. The bond’s price fell 2.5 cents on the dollar, the most since Jan. 29, to 66.25 cents.

There are $4 billion of the bonds outstanding.

Venezuela’s oil output may fall below 2 million barrels per day for the first time in 20 years, said Patrick Esteruelas, a Latin America analyst at Eurasia Group in New York, in a research note yesterday.

Unpaid Bills

Services companies have been idling equipment in Venezuela since the beginning of the year because of unpaid bills. Houston-based Boots & Coots International Well Control Inc. said yesterday it suspended operations in the first quarter because of past-due obligations.

Williams, which has gas processing facilities in the country, said on April 29 that it wrote off $241 million for uncollectible Venezuela payments. Helmerich & Payne Inc. said it may not be able to collect $116 million. Helmerich has idled seven rigs, while Dallas-based Ensco International Inc. idled one, which was later seized by PDVSA.

PDVSA cut its investment plan for this year to $14 billion from a previously planned $24 billion on April 28, and in February Ramirez said the company asked service providers to cut their fees by 40 percent after the price of oil plunged.

Chavez has pledged to maintain spending on social programs that provide subsidized food, health care and housing to the poor, even after crude oil prices plunged 61 percent since July.

Crude oil for June delivery rose $1.78, or 3.1 percent, to $58.49 a barrel at 4:15 p.m. on the New York Mercantile Exchange.

Ramirez said May 6 that Venezuela, a member of the Organization of Petroleum Exporting Countries, supports efforts to raise the price of oil to $70 a barrel.

Angel Rodriguez, a lawmaker and president of the Energy and Mines Commission in the National Assembly, said in an interview May 6 the government wouldn’t expropriate foreign-owned oil and gas drilling rigs.

To contact the reporter on this story: Matthew Walter in Caracas at mwalter4; Daniel Cancel in Caracas at dcancel.

Last Updated: May 8, 2009 17:07 EDT

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