Commentary, 5/6 2014

Published Jun 12, 2014
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Stability, Please
From an outsider’s point of view, increasing oil and gas prices – for what ever reason – must be the oil industry’s dream. But unfortunately, increasing prices are often a sign of instability, which from an oil and gas perspective may be simply the result of the increased costs of exploration and production.

With the days of “easy” oil and gas gone, much of these costs are due to of the extreme hurdles that the industry must clear to overcome the challenges of harsh environments, deep waters – not to mention the incredible distances from existing infrastructure. And that’s only above ground. Drilling is deeper and more complex as well.

Overcoming these physical challenges pushes a company’s break-even oil price higher and higher, and “difficult” oil worries alone are often enough to scuttle a planned project.

But these physical challenges can pale in the light of political instability.

Most obvious is regional conflict. When Arab Spring swept across Northern Africa, the price of a barrel of Brent was pushed well above other basket prices.

The market repercussions of Arab Spring are still being felt, yet it’s never too difficult to gauge how the market will react to uncertainty about supply. A buoyed Brent was the logical outcome, considering proximity to market, when the North African oil supply was interrupted. But market reactions to uncertainty of commodity sales can also be an indicator of instability.

Unrest in Ukraine – as well as the on-going crisis characterised by the territorial dispute between Russia and Ukraine concerning the Crimean and pro-Russian separatists in Ukraine – has lead led to a number of questions about the country’s economy in the future – not least of which concerns the flow of gas from Russia, through Ukraine and into Europe.

The two major trans-Ukraine piplines – Bratstvo (Brotherhood) and Soyuz (Union) – transport more than 300 million cubic metres of natural gas per day during peak seasons. Somewhere in the neighbourhood of 50 to 60 percent of Russia’s gas passes through Ukraine, so it’s no wonder that Russia has turned East, towards Chine, in response to threatened Western sanctions.

Gazprom has now agreed to supply China’s Northeast provinces with 38 billion cubic metres of gas per year via the Power of Siberia Pipeline. And it’s important to note that this market is significant, as population sizes in North East China and Western Europe are nearly identical, at approximately 360 million each.

So we’re already seeing a shift, but the ultimate result will only be seen over time.

We’ve seen how such shifts in supply and demand in one province can alter the market in another. Tapping into unconventional gas and oil in North America has been a boon to the US economy (as well as leading to a reduction of the country’s greenhouse emissions) – but has also closed the door to gas imports from the North Sea.

But pressures on the industry are not always so global or so dramatic. Economic pressure from taxation – as well as shifting support for research and exploration – can lead oil companies to look towards more favourable business locations.

As we prepared to go to press, Marathon Oil Corporation announced the sale of Marathon Oil Norge AS to Det norske oljeselskap ASA. Lee M. Tillman, Marathon Oil’s president and CEO, characterised the sale as part of the company’s strategy of “repositioning the portfolio for future growth and profitability,” emphasising Marathon’s activities in the US.

Yet, while Marathon exits the Norwegian Continental Shelf, for Karl Johnny Hersvik, CEO of Det norske, Marathon’s departure is a win, calling the acquisition a “good fit… given the operational expertise, access to cash flow and the production profile it brings.”

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