Saudis keep oil flowing as they patch up wounded industry

By Anthony DiPaola on 9/18/2019

DUBAI (Bloomberg) - Saudi Arabia reassured anxious customers that crude exports will keep flowing as normal and its industry can recover quickly from the worst attack in its history.

Crude prices fell after Tuesday’s long-awaited statement from the kingdom -- which pumped almost 10% of the world’s oil before the crucial Abqaiq facility was struck by missiles or drones over the weekend. Yet it also became clear that Saudi Arabia’s industry will remain weakened for months as it depletes oil reserves to meet supply commitments and operates without its usual buffer of spare production capacity.

“Considering limited spare capacity outside Saudi Arabia and risks of renewed attacks on Saudi energy infrastructure, a risk premium is likely to stay on oil prices in the foreseeable future,” UBS Group AG analyst Giovanni Staunovo said in a note on Wednesday.

Even as Aramco fixes the damage at Abqaiq, the possibility of further escalation of military conflict hangs over the oil market. U.S. Secretary of State Michael Pompeo traveled to Saudi Arabia on Tuesday for talks. Later on Wednesday, the Saudi Defense Ministry will show evidence of Iran’s involvement in the attacks against, according to state television.

Abqaiq is now processing about 2 MMbpd of crude, Aramco Chief Executive Officer Amin Nasser said at a briefing in Jeddah on Tuesday. The facility should return to pre-attack levels of about 4.9 MMbpd by the end of September, he said.

“During the two past days, we managed to contain the damage by recovering more than half of the production that we had lost during that terrorist attack,” Energy Minister Prince Abdulaziz bin Salman said at a briefing in Jeddah. “The company will be able to meet all its commitments to customers this month by drawing on its crude oil reserves.”

That was a relief for a market that has been wracked by uncertainty -- seeing a record price surge in Brent crude on Monday -- but progress has been slower than was initially expected. Soon after the weekend attack, officials indicated that the majority of output would be restored within days, with weeks required to get back to full capacity. The outlook became more pessimistic in subsequent days as photos were released showing the scale of the damage at the crucial facility.

The minister and CEO assured customers Aramco’s crude exports won’t be reduced this month because it will draw down strategic reserves. The kingdom also temporarily reduced the rate at which domestic refineries process oil by about 1 MMbpd, making more crude available for shipment overseas.

Still, figures provided by the energy minister suggested the kingdom will take months to fully recover from the incident. Full output capacity of 12 MMbpd will only be available at the end of November, with about 11 million restored by the end of this month, said Prince Abdulaziz. Saudi Arabia aims to pump 9.8 MMbpd in October, he said, in line with recent months.

Brent crude dropped 6.5% on Tuesday after the kingdom’s reassurances, but that only partially erased Monday’s 15% surge, which was the biggest since the contract started trading in 1988. Futures fell 0.8% to $64.07 a barrel as of 10:23 a.m. in London on Wednesday.

That historic price gain underscored the unprecedented nature of the disruption caused by the attack. For decades, Saudi Arabia has been the oil market’s great stabilizer, maintaining a large cushion of spare production capacity that can be tapped in emergencies, such as during the 2011 war in Libya.

The suspension of 5.7 MMbpd of Saudi production by the attack -- the worst sudden loss in the history of the global oil market -- exposed the inadequacy of the rest of the world’s supply buffer. Beyond the kingdom, other participants in the OPEC+ cuts, such as Russia, Kazakhstan and the United Arab Emirates, could restore a few hundred thousand barrels a day of idled production, but that’s not enough to offset Saudi losses.

Aramco ramped up offshore fields to maximum to replace some lost production, Nasser said. Customers were also being supplied using stockpiles, though some buyers are being asked to accept different grades of crude, a person familiar with the matter said earlier this week. The attacks had “zero” impact on the kingdom’s revenues, Finance Minister Mohammed al-Jadaan said in a Bloomberg TV interview.

For all the practical fixes to damaged infrastructure that are now underway, Saudi Arabia’s failure to prevent the attacks and the risk of further military escalation in the region will hang over the oil market for a long time to come.

Tehran and Riyadh are historic foes backing opposing sides in Yemen’s long-running civil war. The volatile situation in the region finally boiled over earlier this year as U.S. President Donald Trump used sanctions to attempt to choke off all of Iran’s oil exports -- the lifeblood of its economy -- after unilaterally withdrawing from an international nuclear deal.

Since then, the Persian Gulf, source of about a third of the world’s seaborne oil exports, has been under siege, targeted by air, sea and land. While Trump has shown some reluctance to go to war, there are also few prospects for easing tensions as Saudi Crown Prince Mohammed bin Salman decides how to respond to the assault.

Prince Abdulaziz said he wouldn’t comment on whether Iran was responsible for the attack. The Pentagon is preparing a report on who was to blame and intends to make it public within 48 hours, a U.S. defense official said Tuesday.

Houthi rebels in Yemen, who are backed by Tehran, said Monday that oil installations in Saudi Arabia will remain among their targets and their weapons can reach anywhere in the country. Iran’s supreme leader Ayatollah Ali Khamenei said Tuesday his country won’t negotiate with the U.S. on any level.

“We cannot rule out the possibility of similar attacks on key Saudi energy infrastructure in the future,” said UBS’s Staunovo. The bank raised its three-month trading range for Brent crude by $6 to $59 to $71/bbl.

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