Jurassic Spark

It was way back in 1933 when the Sinclair Oil Corporation, once one of America’s largest refiners, sponsored the dinosaur exhibit at the World’s Fair. The idea behind the backing was simple, to play on the notion that the world’s oil reserves were formed during the Mesozoic Era (when the dinosaurs lived) highlighting the putative connection between the extinct species and the formation of petroleum deposits. The exhibition proved so popular, Sinclair promptly adopted a large, green Brontosaurus (Apatosaurus to those dinosaur purists) as its logo.

Ironically, Sinclair went the way of the dinosaurs itself, being acquired and then spun off several times since its heyday, although its petrol stations can still be found in the American Midwest. The theory that the decaying reptiles produced oil has unfortunately also gone the same way, with scientists now claiming that microscopic bacteria, alive three billion years ago, are now responsible for the vast oil reserves left under the earth’s crust.

Nowhere on the planet are such rich deposits found than in the Middle East. From the vast fields of Ghawar in eastern Saudi Arabia to Burgan situated in the Kuwaiti desert, the Arabian Peninsula is both blessed and cursed with the majority of the world’s black gold. The double edged sword that oil bares is one that another Arab nation, Iran, has felt wielded numerous times over previous decades. Proved oil reserves in Iran rank as the fourth largest in the world, (roughly 10% of global deposits) and would last for approximately 98 years if no new oil was found. By 2012, Iran was exporting 1.5 million barrels of crude a day making it the second largest exporter within the Organisation of the Petroleum Exporting Countries (OPEC) and giving the country annual oil revenues of $250 billion.

However with US President Trump’s recent moves to remove America from the Iran nuclear deal and restore sanctions on Tehran, the future is less certain. By imposing the “strongest sanctions in history”, the US has attempted to prohibit trade with the Middle Eastern state and stop the flow of oil between them and the rest of the world.

The stymieing of oil exported out of Iran coupled with another of OPEC’s heavyweights, Venezuela, facing output disruptions, political troubles and sanctions of its own has made for an interesting ride for investors. The news of each country’s plight contributed to six consecutive weeks of rising prices during April and May, passing the $80 mark in the process, a level not seen since 2014. Although not good news for those at the pumps, it certainly is for those operating them. From Shell to Chevron there has been much to cheer for big oil. Share prices have rallied on the back of strengthening cash flows and stronger earnings, with European and US energy benchmarks having both risen approximately 15% since the end of March. Swelling coffers have also allowed many companies to increase their payout ratios, with Shell forecast to up their dividend soon along with BP, who have recently signalled that they are now in a position to increase their dividend for the first time since 2014.

Buoyant oil prices create a huge tail wind for the key producing nations. Oil’s march has led OPEC’s de facto leader, Saudi Arabia, to cut its budget deficit, from 12.8% of GDP in 2016 to just 7% this year. The same is also true of Iran, it is predicated that at current quota levels, a mere $1 rise in the price of oil would alter the country’s revenues by $1 billion.

With shale fracking in the US having threatened to revolutionise the energy sector back in 2016, oil prices fell dramatically as more supply flooded the markets. However, since its nadir of $27.67 per barrel, oil prices have now trebled. Although geopolitical events in oil producing countries have helped, OPEC approved production cuts have sent the commodity’s price skywards, showing the cartel still possesses the power to control one of the world’s most precious resources. Although the connection between prehistoric lizards and fossil fuels is now thought to be fiction, controlling over 40% of the world’s oil supply will mean that OPEC will not be going extinct any time soon.

Jurassic Spark first appeared in the Cumberland Place Newsletter for June 2018. Click here to view a PDF version.

 

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This article is for information only and does not constitute an offer or solicitation of an order to buy or sell any securities or other financial instruments, or to provide investment advice or services. The mention of any specific shares or bonds should not be taken as a recommendation to deal. Any opinions expressed in the Investment newsletter are made as at the date of publication but are subject to change without notice and should not be seen as investment advice. Information obtained from external sources is believed to be reliable but its accuracy or completeness cannot be guaranteed.

 

Tags: Analysis, Economy, Investment, Market, Newsletter

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