On Saturday, September 14th, coordinated drone strikes on critical Saudi Arabian oil production facilities knocked out nearly 60% of the country’s oil production capability, nearly 20% of the natural gas production, and approximately 50% of ethane and NGL production. In terms of volume, an estimated 5.7 million barrels per day (mmbls/d) of crude oil capacity is currently offline, which is over 5% of current total global supply.
Early reports suggest nearly 50% of lost crude production should come back on line by today, Monday, September 16th, with a full recovery requiring up to several weeks. In response to the lack of certainty with respect to both the timing and magnitude of volume restoration; however, both Brent and West Texas Intermediate crude oil prices jumped Sunday evening and this morning, each rising by more than 10%. We expect global crude oil pricing to remain volatile as details regarding outage duration and size gradually make their way to the crude oil marketplace.
While the production outage is being restored, Saudi Arabia plans to maintain exports by drawing from ample inventories currently on hand. In addition, with refinery activity down, some Saudi crude feedstocks will likely be offered for export further mitigating impacts of the facility outage. With respect to broader market support, readily available OPEC spare capacity could be offered, and President Trump has already moved to authorize the release of crude oil from the U.S. Strategic Petroleum Reserve.
Yemeni Houthi rebels were quick to take responsibility for the drone strikes, though U.S. Secretary of State Mike Pompeo blamed Iran, calling it “an unprecedented attack on the world’s energy supply”. Tensions between Saudi and Houthi rebels, who have been waging a campaign against Saudi Arabia as proxy on behalf of Iran, have risen to new heights reflecting a geopolitical risk to middle east crude oil pricing not seen since the Gulf War in the early 90s.
In our view, the rise in geopolitical risk is supportive of an elevated risk premium in the global price of crude oil that will likely remain even after Saudi facilities, production and exports return to pre-strike capabilities. Despite lingering concerns regarding slowing global economic growth brought on by trade war headwinds and the potential uncertainty with regard to BREXIT, the attack and disruption to Saudi supplies is unprecedented; and it clearly trumps demand concerns with uncertainties associated with further escalation and the potential for additional supply disruption.
While geo-political risks are always part of the investment proposition that comes with energy equity investing, we would emphasize that this most recent event marks a significant elevation in supply risk, and as such should merit a heightened appreciation for supply sources outside the middle east, namely the United States, where transparency, market liquidity and the ease of doing business combine to make the U.S. a hydrocarbon supplier of choice. For investors, the relative attractiveness of the U.S. as a source of supply in our opinion should continue to support growth across the U.S. energy value chain as the industry is increasingly called upon to supply growing consumer demand here and abroad.
By Ben Cook, CFA, Portfolio Manager for the Hennessy BP Energy Fund and the Hennessy BP Midstream Fund (www.bpcfunds.com)
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