How Saudi Arabia Delivered A Blow To U.S. Shale Companies At The Worst Possible Moment

Tracy Alloway (0:10)

Hello, and welcome to another episode of the Odd Lots Podcast. I'm Tracy Alloway.

Joe Weisenthal (0:15)

And I'm Joe Weisenthal.

Tracy Alloway (0:17)

So Joe, we have seen an absolutely stunning drop in the price of oil.

Joe Weisenthal (0:24)

That is, to put it mildly, I would say, the stunning drop.

Tracy Alloway (0:28)

Stunning? Stunning is mild.

Joe Weisenthal (0:32)

You know, oil had already been precipitously declining all year amid concerns about economic growth and supply, and then of course, over the weekend, Saudi Arabia just came out and shocked the world.

Tracy Alloway (0:46)

Yeah, so Saudi Arabia basically said it wasn't going to extend the production cut agreement that had kind of provided a floor for oil prices for a few years now. Oil promptly fell something like 30% over the weekend, which was the biggest fall since the first Gulf War. And it's recovered a bit since then.

At the time of our recording, I think Brent, the global benchmark for crude is trading at $37 a barrel, and WTI in the US is at $33 a barrel. But it is still massively bad news for the US energy sector.

Joe Weisenthal (1:25)

Yeah, absolutely right. When oil opened, and so just so that people understand the timing, obviously we're recording this Tuesday, March 10th, but when oil opened this past Sunday, and everyone was watching with their jaws on the floor at that 31% crash, the only thing that it reminded me of at the time is when Bear Stearns opened at $2 a share.

It was just that much of a dislocation that I can't think of anything else comparable in the last decade to seeing that move.

Tracy Alloway (2:01)

Yeah, a huge dislocation in the market, a big surprise for OPEC watchers. But all of that is sort of bad enough for the energy patch, but there's something that makes it even more painful, if you can believe it, which is that this oil price drop is coming at a very special time in the energy market.

Right around this time of the year, we have something known as the borrowing base redetermination process or season, which is basically the time in which banks reassess their loans to energy companies. So those loans are based on an estimate of the value of their oil and energy related assets. So the fact that they're going to be doing this right after oil fell 30% is really not good.

Joe Weisenthal (2:52)

Right, it's terrible timing because A, as you mentioned, oil is getting clobbered, and then on top of everything, because of the volatility in financial markets, there is not a particularly high amount of risk appetite to fund anything, let alone extremely risky energy players who suck the commodity that they sell just plus 30% a day.

Tracy Alloway (3:17)

Absolutely, and the interplay between the US energy sector and capital markets is a really interesting one. So we're going to dive into it on this episode. We're going to get maybe a little wonky, but it'll be fun. Our guest for this episode is Buddy Clark. He's a partner at the law firm Haynes Boone based over in Houston. He's also the author of Oil Capital, The History of American Oil Wildcatters, Independence and Their Bankers, which is basically all about the relationship between energy and capital and banking. So he's really the perfect person to discuss this.

Buddy, thanks so much for coming on.

Buddy Clark (3:58)

Oh, thank you for inviting me.

Tracy Alloway (4:01)

So Buddy, I mentioned that you're based out in Houston. Joe mentioned the massive reaction to the oil price fall over the weekend.

What reaction did you see out in the oil patch in Texas?

Buddy Clark (4:17)

Well, I think everybody's seeing a little bit of shell shock at the moment and waiting to see where the prices settle out. Obviously, it's been a major drop in prices and that's significant for producers all up and down the value chain as far as their size and debt leverage ratios.

But I think right now, people are still trying to hold their breath to see where this is gonna fall out. You saw a couple of the larger independents announced they were just gonna cut back significantly on drilling capital expenditures and that's probably gonna be the theme coming out the next couple of weeks from all the publicly reporting companies.

Joe Weisenthal (4:57)

Well, there's a lot of different moving parts here. Obviously, the move from Saudi Arabia, according to all the reporting, was precipitated by tension between Saudi Arabia and Russia. I think the reporting called it Saudi Arabia firing a shot in the oil price war.