Is Another Oil Head-Fake Coming?

Tyler Durden's picture

Authored by Charles Hugh Smith via OfTwoMinds blog,

The dramatic declines in the costs of oil production will be boosting supply at the very moment that demand is falling.

Over the past decade I've addressed what I call Head-Fakes in the cost of oil/fossil fuel: even though we know the cost of extracting and processing oil will rise over time as the easy-to-get oil is depleted, oil occasionally plummets to such low prices that we're fooled into thinking it will remain cheap for a long time to come.

This drop in price is a head-fake, because over time the depletion of the cheap-to-extract oil will push global prices higher.

Why does this matter? Economists have noted for decades that spikes in energy costs tend to trigger recessions for the obvious reason: the more households and businesses spend on energy, the less they have to spend on goods and services.

When the price of oil drops, people buy larger, fuel-hungry vehicles because the operating costs are reasonable at the moment of purchase. The need to conserve declines across the board, setting up a high consumption level that establishes a high cost basis when oil returns to its "natural" price levels.

Correspondent Joel M. submitted an article that explains one reason why oil may plummet in price: oil companies are dramatically dropping the costs of production in order to remain profitable as oil has fallen from $100/barrel to $50/barrel. Ironically, this drive to lower costs to make oil profitable at $50/barrel or lower is sparking a production and investment boom that promises to boost production in the near-term.

Race to Bottom on Costs May Cause Oil to Choke on Own Supplies (via Joel M.).

Wael Sawan, the head of Shell’s deep-water business, said the company had been able to reduce the cost of its wells by 50 percent over two years. The biggest reason: Shell now uses just four standard well designs worldwide, compared with dozens previously, according to Sawan.


"We are going to see more material cost saving in the next couple of years," he said in an interview.


With costs down from shale to mega-projects, companies big and small are starting to green-light more investment. Shell for example just approved the Kaikas deepwater oil field in the U.S. Gulf of Mexico, the first to get a go-head from the company in more than two years. The project will make money at less than $40 a barrel after Shell reduced its projected costs by 50 percent.

Though the global stock market is in a euphoric uptrend at the moment, many observers see the inevitability of a global recession as China dials back its astonishing credit expansion/housing bubble. Having created $30 trillion in new credit, China's financial authorities are trying to cool down that runaway credit expansion without choking the Chinese economy. Their modest tightening in 2014 deflated their housing bubble, and the trickle-down effects soon slowed the global economy to a crawl.

As many of us have noted, no structural problems have been solved over the past eight years globally; all we've done is create unprecedented sums of new money in the form of credit and sovereign borrowing to keep the bubbles inflated. At some point, diminishing returns on new debt will trigger a break in the ability of households, corporations and nations to service their rising debt loads, and a retrenchment/recession of some size will occur--even if central banks flood the financial sector with liquidity and lower interest rates.

They can't force households and corporations to borrow more, though they will try.

Any significant reduction in global demand for oil will trigger a sharp, sustained decline in the price of oil. Price for commoditized goods and services is set on the margin; a 5% decline in demand doesn't necessarily reduce price by 5%; if the drop in demand shifts the the global supply into chronic over-supply, it may trigger a price drop of 25% or more.

The dramatic declines in the costs of oil production will be boosting supply at the very moment that demand is falling. This imbalance will crush the price of oil, perhaps as low as $25/barrel. Some analysts are predicting sub-$20 oil.

Low prices will devastate profits and oil-exporting nation's oil revenues, and perversely remove incentives to conserve energy. These two dynamics will then set up the next oil spike, as production will decline while demand will be boosted as economies use more "cheap oil."

The global economy will quickly adjust to low oil prices, and decisions will be made to raise consumption based on those low prices.

When oil inevitably spikes higher as supply is slashed and demand increases off the recessionary trough, everyone will be "surprised" that low prices didn't last.

That's the oil head-fake in a nutshell.

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A. Boaty's picture

"...[Shell] had been able to reduce the cost of its wells by 50 percent over two years. The biggest reason: Shell now uses just four standard well designs worldwide, compared with dozens previously..."

It took them until recently to use standardized, interchangeable parts? Yeah, ok, whatever.

earleflorida's picture

SK has manufactured [maketh] every Shell 'LNG' Super Transport Tankers starting a decade ago on the drawing board!

NotApplicable's picture

Too bad there's no fucking demand, thanks to the destruction known as debt-based fiat currency.

Arnold's picture

What's this got to do with the 30% YOY increase in my healthcare premiums?

OpTwoMistic's picture

Even with dollar destruction speculators still paying high 40's for $30 dollar oil.  Gasoline is insane at the wholesale level.

Lucretius's picture

Gasoline is insane at the wholesale level.

Tell me about it, I live 100 miles from the lowest retail prices in the US (Tucson,AZ) and pay .40 cents/gallon more??? I call bullshit! Why does Tucson consistently have some of the cheapest fuel prices in the nation, land locked, no production/refining facilities, just another spigot on the pipeline... and their prices include .18 FED and .18 State TAXES! Gee, I wonder why EVERY station in my little town charges exactly the same price, for months on end, NO variation! Odd or obvious???

surfersd's picture

What a fucking bullshit story. The market is going to go up, but first it is going to collapse. I traded crude for 40 years,  it is opinions like this that allow one to make money. The bigger story this year in oil, is that all of the major trading groups are not making any money, eg Andy Hall. The author is trying to tell us his magic ball is predicting the next two major moves. Unfortunately, he forgets to mention the price and the timing of each.  

earleflorida's picture

fair enough...

but has this scenario ever been a factor in a energy-hungry [global] world, willing to go to war for survival? 

kliguy38's picture

Does a bear shit in the woods?

Thomas W. Swift's picture

Tom Swift's Radiant Energy Lessons

Lesson #2: Important Inventors of History You (mostly) Haven’t Heard Of

BEARDEN, TOM: American physicist and inventor. Best known for his pioneering work regarding the theoretical basis of permissible systems with COP>1, also has an issued patent for the “Motionless Electric Generator”.
BEDINI, JOHN: 1949?-2016. American inventor and audio engineer. Best known for his groundbreaking work in advanced analog audio systems and substantial contributions to the field of free energy research, including a number of published designs for self-running machines.
DOLLARD, ERIC: Has demonstrated many aspects of Tesla’s technology including a mild form of overunity. Best known for his theoretical work building on Steinmetz and Heaviside.
GRAY, EDWIN: 1925-1989. Best known for his “EMA Motor”. An early prototype of the EMA motor was tested at Caltech and found to be overunity with a COP of 278.
LEEDSKALNIN, ED: May have had both overunity and levitation.
MEYER, STAN: Demonstrated the “water car”, a dune buggy converted to run on 100% water by overunity electrolysis.
MORAY, THOMAS HENRY: Repeatedly demonstrated his trunk-size device with no moving parts and no obvious external power source generating more than 50 kilowatts of power. Many reliable witnesses saw this in multiple locations and sworn statements exist.
SEARL, JOHN: 1932-present. Built and demonstrated the SEG, the Searl effect generator. A magnet-based dynamo, it generates excess electrical power. Some early units were lost because they had a tendency to levitate once self-powering RPM was achieved.
SMITH, DONALD: Demonstrated a suitcase-size overunity device in front of a crowd at the 1996 Tesla Tech convention. In addition to numerous witnesses, video exists of this event and measurements showed that no conventional power source could produce the sustained amount of energy demonstrated (10x 100W light bulbs).
SWEET, FLOYD: Best known for his “Vacuum Triode Amplifier”, a solid state brick-sized device with no moving parts that generated sizeable electrical output with milliwatts of drive power. Later versions could produce several kilowatts of power, and the device was measured to lose weight under load.
TESLA, NIKOLA: 1856-1943. Serbian-American inventor who is best known for his contributions to the design of the modern alternating current electricity system. Also discovered radiant energy.

earleflorida's picture


nice stuff for research


again, thanks for the 'heads-up'? -)

Thomas W. Swift's picture

You wouldn't believe how much there is to know once you start researching this stuff. As you research, you discover that there are quite literally not just dozens, but hundreds of inventors from Tesla's time until now that made these kinds of extraordinary claims, some with actual documented evidence to back them up. Eventually it becomes hard to dismiss ALL of them as cranks, crackpots, and charlatans, even though certainly some of them were.

For reference:

herbivore's picture

The important thing to realize is that the decision-makers, all the CEO's in all the oil companies, are personally protected from $25 oil because they get to essentially set their own pay packages. At $25 oil, they simply increase their stock options, by a factor of two or three or more. Then, when the inevitable rise in oil prices happens, their options increase in value manifold. In this way, the senior management of the oil companies benefit by crashing prices. The only way they lose is if the company goes bankrupt but by then they've cashed out so they don't care. The point is: critical decisions are made by people who are protected from the adverse consequences of their decisions. It's the same for politics and finance. Only the little people suffer.

Rebelrebel7's picture

I thought that the oil head fake was that the first cars ever invented were electric, the first DoD contacted plane by Lockheed used hydrogen, and windmills have been in use for 4 thousand years.

Felix da Kat's picture

This time, it really is different because of shale fracking, streamlining technologies for recovery, growth of alternative energu sources and governmental incentives to forego fossil fuels. The world is awash in an ever-increasing recoverable-energy supply (the Peak-Oil meme was a manipulative lie). This, when combined with new extraction technologies, means there will be downward pressure on the Cost of production per Btu worldwide for decades to come. Wild price swings are a function of political instability but reversion to the (downward pointing) mean will continue. 

VangelV's picture

"This time, it really is different because of shale fracking, streamlining technologies for recovery, growth of alternative energu sources and governmental incentives to forego fossil fuels." 

The shale companies cannot generate positive cash flows at $50 oil and couldn't generate positive cash flows at $80 oil.  Shale is a huge scam that was made possible by a massive amount of liquidity as the Fed tried to save the economy from the 2000 collapse.  It is not all that different than the housing bubble before it.   The simple fact is that the debt in the sector is massive, the free cash flows are still negative, and oil prices remain weak.  Even if they went up, the companies would have to use Chapter 11 to rid themselves of debt that cannot ever be paid back.  But even then they would have a hard time making a profit from oil production because the energy content of the exploration, development, and production activities exceeds the available energy content of the product.  

Sorry, Virginia. I have to inform you that here is no Santa Claus.

MD's picture

The BP annual energy survey does not show declines in oil's share of global energy supply. It still stands around 33% of global energy supply. Renewables remain under 3%. The notion that governments are phasing out oil in favor of renewables is vastly overstated. In many use cases, there is still no alternative to oil. We'll be pumping oil in huge quantities for a very long time.

VangelV's picture

I am sorry but it is IMPOSSIBLE for oil to fall to $25 and stay there for very long.  If we look at the shale sector, it is clear that the production was not economic at $80 even as companies tapped the core areas where production made some sense.  Now that the core areas are about tapped out and the very unproductive parts of the formations are all that is left, there is no way for the sector to continue to produce around 5 mbpd in order to keep global production flat.  And with a reduction of investment in conventional fields, the production levels should fall naturally by around 3-4% from the older fields that have already peaked.  There is no way to get enough deep water drilling to offset those declines so the only way that we get such low prices is to have a major collapse that takes down the global economy without hurting the purchasing power of the fiat currency that is the foundation of the American economic system.  


Sorry but I just don't see that happening.  If oil prices collapse we should buy the shares of the conventional players that can survive the downturn.  But if Venezuela continues along its path or Saudi Arabia begins to reveal its underlying political problems, we may get $80 oil once again.  Sadly, it won't save the shale sector.  


VIS MAIOR's picture
bullshit  1.2 Billion Vehicles On World's Roads Now, 2 Billion By 2035: Report

Demand for oil will only grow...   also for nuclear power stations.  

Do not forget to expect 9 billion people in 2040 roughly.

People do not have money for expensive electric car. ALso selling el. cars  in most el. states falling ,norway,danmark..

and people will increasingly poorer in the future becouse will more and more people ... So the efficiency of the combustion engine will WIN WIN in future .

if you do not believe me travel now in europe. There are millions of trucks moving goods up in dawn and from east (poland) to west.. . AND ITS ONLY TRUCKS!! Making them electric would need 1,000 nuclear power plants. German and Czech scientists involved this  in study..  also electric cars comming with expensive infrastructure which can by destroyed in minute with EMP or other weapon..   and the EU is defeated.

When the sponsorship of the electric lobby ends, the whole bug cars development  will fall.


dark pools of soros's picture

zionists going to push oil price down to 5 shekles just because Russia

oak's picture

low oil price->low petro-dollar supply->low money velocity->deflection->???

NoWayJose's picture

Oil will go up when Goldman wants it to go up, and not a moment before...

choco bunny's picture

gold man still has ties with shepwave  that much is obvious

VIS MAIOR's picture

These articles are written by someone who does not have absolute contact with the real world. He was never in Europe, asia, india/paki, south-east asia.. australia..

83_vf_1100_c's picture

My 25 yr old son was just offered a $22/hr job managing a car rental repair shop. Minor repairs, the hard stuff goes to the dealership. Today he is in West Tx interviewing for a $100k job in the oil fields. Dress pants and button shirt getting by or good money for nasty hard work. Happy to see the kid doing well. Went from dumbass to doing something with his dreams.

choco bunny's picture

This guy here is good. He is the one oil analyst who is obviously listening to Shepwave.  Shepwave has been calling oil for at least the last ten years. They are calling for another down turn I believe to pick up soon.  Their calls in stocks have been dead on. Only analyst who saw the rallies coming.

TrumpRally's picture

Their calls in gold have been good too

Publicus's picture


Oil is a renewable. The price proves it.

hanekhw's picture

I often get confused by the levels of manipulation in the oil industry and wonder at the sudden appearance and disappearence of 'inventory' that it can magically achieve by a mere wave of it's bar code scanners. Does ANYONE actually LOOK at refinery output?

sinbad2's picture

Are prices for the consumer much lower?

It seems to me that pump prices have dropped very little compared to the price of crude.

I think the major oil companies simply increase the profits from refining and retailing, to keep their revenue flow up, regardless of the price of crude.

In countries like China, where there is real competition between refiners, I'm sure people are getting cheaper fuel, but here in Australia where Texaco controls the market,  I'm paying $5.46 a gallon.