OPEC is in big trouble

Money Talks Michael Campbell interviews Josef Schachter, Canada's leading independent energy analyst and founder of Schachter Asset Management

Michael Campbell: How has the budget and debt ceiling debate going on in the United States affected energy prices — the oil market in particular?

Schachter: The problem with the U.S. is it's pretty anemic growth of about 1.5%-2 % of real GDP, and every week that the U.S. economy has the government shutdown it’s near a 1/4  of 1% for the week impacting the quarterly numbers. So if the government is shut down for two or three weeks, you've got barely much growth in the U.S. Of course if the economy is not growing in the states, the demand for energy is going to be weak.

For example if you look at last week's data, demand fell from 19.3 million barrels per day to 18.7, down 580,000 barrels a day. So now you've got supply in the U.S., with inventories built by 5 million barrels of crude oil last week and you have 97.5 days of supply, which is probably 10 or 12 days more than is necessary. 

You've also got increasing production in the United States as well as OPEC increasing production. Specifically you've got Nigeria, Saudi and Iraq increasing production, plus if there's a resolution of this Iran situation, and all of a sudden Iran's sanctions are removed, they're going to increase production and all of a sudden you're going to have a glut on the world. 

In short, from a fundamental point of view we've been bearish on energy. We've said the fair value of the price of oil is $70-$80 and that there has been about a $30 risk premium in it because of the problems in Syria, Iran and Egypt. So you have maybe $10 dollars for each of those items and slowly each of them seem to be resolving. All of a sudden that risk premium should come out. 

Since we've been cautious on energy, the index may be up 3% or 4 %, but it has been very difficult to make money in the sector. Now with oil potentially vulnerable to the downside here, you want to be very careful or be underweight the sector. 

Campbell: One of the things to come out of the blue is solutions to things that we didn't see coming. For example in the early 1980s we had the National Energy Policy projecting huge jumps in the price of oil that didn't manifest because they couldn't anticipate fuel injection being so much more efficient than carburetors. 

The equivalent today, perhaps even more profound, is the incredible impact of fracking on keeping natural gas prices low and oil supply increasing. Is Canada about to miss its opportunity because of the negativity toward the energy sector? 

Schachter: Yes. Take for example British Columbia having these issues about LNG in the export terminals. You know the longer they take to get a resolution and get a go-ahead, other countries like Australia and other places are going take that market share away. The longer the political and environmental hurdles take to resolve themselves as well as the fiscal arrangements where the government wants its share of the pie, all that has to be resolved in 2013. If it drags them through the end of 2014, others are going to take that market share that's being created in Asia because Japan is closing the nuclear plant, as well as the existing demand in Korea and China. Add to that all these guys have the potential for shale, especially China, so there will probably be growing production growing on that side and they will want less from imports. Of course we will suffer.

I don't think the total demand is going to be as vibrant as everybody's talked about in the past because of technological advances. Right now the demand for crude oil may be 90 million barrels worldwide. In the old days we used to say by the end of this decade it might be a 100 million. If we take into account the amount that's going to come from non-OPEC, OPEC is going to lose market share and of course they're not going to want to do that. 

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