Earlier today we reported [13]that when it comes to Saudi Arabia, things are going from bad to abysmal, with the market is clearly aware of it. Saudi riyal forwards hit their highest level in almost two decades as oil plummeted: twelve-month forward contracts for the riyal climbed 260 points, and set for the steepest close since December 1996 on growing speculation the world’s biggest oil exporter may allow its currency to slide against the dollar for the first time since 1986 (incidentally, Bank of America's "Number One Black Swan Event For The Global Oil Market In 2016 [14]").
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Alongside this, Saudi default risk has also been rising, and as of this morning Saudi CDS traded wider than Portugal:
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The reason for this suddenly quite dire outlook on Saudi Arabia is that as the kingdom has made very clear over the past year, it will continue with a strategy of oversupplying crude even if it means sending its fiscal deficit soaring, forcing the country to draw down on its reserves, and load up on debt.
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In other words, as long as Saudi Arabia refuses to relent and allow oil supply to catch up with demand, thereby pushing the price of il higher, it is slowly crushing not only its competitors such as the high-cost OPEC producing nations and marginal US shale companies, but itself as well. The biggest question is how much longer Saudi Arabia can continue this self-punishment, one which recently spilled over with Saudi Arabia forced to boost gas, water and electricity prices and in effect, dismantle its welfare state [18], risking widespread social unrest.
And then earlier today everything changed when Saudi Arabia's unveiled what may be a stunning Hail Mary: one which is great news for the suddenly liquidity challenged Saudi government, and is very bad news for the future price of oil.
According to the Economist [19], Saudi Arabia is contemplating taking Saudi Aramco - arguably the world's most valuable company - public. To wit:
SAUDI ARABIA is thinking about listing shares in Saudi Aramco, the state-owned company that is the world’s biggest oil producer and almost certainly the world’s most valuable company. Muhammad bin Salman, the kingdom’s deputy crown prince and power behind the throne of his father, King Salman, has told The Economist that a decision will be taken in the next few months. “Personally I’m enthusiastic about this step,” he said. “I believe it is in the interest of the Saudi market, and it is in the interest of Aramco.”
The potential listing comes as Saudi Arabia grapples with the damage wreaked on its economy by an oil-price collapse to below $35 a barrel, as well as mounting tensions with its arch-rival Iran, following the execution of Saudi cleric Nimr Baqr al-Nimr in early January. It is just one possible step in an ambitious plan to balance the budget and throw open the country’s closed economy.
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The upstream part of the business would be most attractive to investors. At 261 billion barrels, Saudi Aramco’s stated hydrocarbon reserves are more than ten times those of ExxonMobil, the largest private oil company. Saudi Aramco is also one of the world’s lowest-cost oil producers, thanks to the ease of pumping oil in Saudi Arabia.
The financial community immediately sprang up to analyze what a deal like this would mean.
According to Bloomberg oil strategist Julian Lee (who worked for the former Saudi oil minister Sheikh Yamani) the possibility that Saudi Aramco might sell shares to investors is unlikely to bring degree of transparency that oil, equity markets might want.
If there were to be an IPO, investors’ wishlist for information about Saudi Arabia would include: detailed published, externally verified reserves; similar estimates of spare output capacity; published, audited report and accounts, and so on. Lee notes that it would be challenging for Saudi Arabia to share detailed information on reserves, production capacity as those are often regarded as state secrets in oil-producing nations; any possibility of reserves, output capacity being downgraded by external assessors would be unacceptable to Saudi Arabia.
Furthermore, the IPO would be unlikely to happen on world’s biggest exchanges, which would require greatest transparency.
Others were comparably skeptical: according to SocGen's Mike Wittner, the IPO of Saudi Aramco wouldn’t immediately impact oil prices, adding that a potential IPO doesn’t indicate any change in Saudi strategy of letting the oil price do the job of managing global supply.
He is correct: it wouldn't immediately impact prices; it would however have a huge impact on oil prices over the longer run.
Because reading between the lines, what this announcement really means is that Saudi Arabia is scrambling: for it to resort to partial privatization of its crown jewel, which is what selling stake in an IPO would mean, it suggests two things: the government is desperate to obtain liquidity at any price, and it means that if successful, the Saudi regime will be able to continue its strategy of crushing its high production cost competition for a long time thanks to the new funds.
Indicatively, selling 5% in a company valued at $2 trillion would mean a $100 billion liquidity check to the Saudi government, or enough to fund the country's reserve outflows for at least year, and perhaps as much as two - a period of time that would be sufficient to put virtually all marginal shale producers, as well as a Venezuela or two, out of business.
In conclusion, keep a close eye on the Saudi capital raising plans, especially if they involve privatizing even more state assets: if that is the route the crown princes have decided to take, then Saudi just found a brilliant loophole to its near-term liquidity troubles, one which will surely lead to its victory in the global race to the crude bottom.
There is really just one key question: who would buy this IPO?
After all, not a single oil-exporter would sign up for this (they would be handing over money to their own executioner) while US firms would indirectly be crushing their own parallel investments in shale and its numerous derivatives, with who knows what unintended consequences as the shale bankruptcy wave finally strikes.
Then again, for the "really rich people", a $50 or even $100 billion check is nothing at the end of the day. It is, however, a huge political statement, one which may serve as the foundation of a new post-petrodollar axis. We, for one, are extremely curious to find out just who ends up paying it.