Speaker 1 (00:03):
This episode of Energy Sense is brought to you by S&P Global's Financial and Capital Markets Energy Advisory Group. Our team of experts provides the investment community with actionable insight and integrated thought leadership that identify the trends and trend makers of global energy markets. Solutions cover the full energy and natural resources' sector from traditional fossil fuels to emerging clean tech ideas and supply chains and are available via recurring reports, webinars, robust data sets, and personal engagements with experts.

Hill Vaden (00:32):
All right. Welcome to Energy Sense, a new podcast from S&P Global. I'm Hill Vaden here with my friend, colleague and cohost, Breanne Doughtery. Hi, Breanne.

Breanne Doughtery (00:42):
Hi, Hill. How are you?

Hill Vaden (00:44):
I'm doing well. Today we mentioned this is our first episode of Energy Sense. Breanne and I are going to be on the show considering the biggest trends and trend makers in global energy markets via conversations with experts across our firm.

Breanne Doughtery (01:02):
Yeah. It's actually particularly exciting for us, because we can talk all forms of energy on this particular podcast, which is great. Which means we can discuss oil, gas, power, renewables, the intersections between them. The other great thing is we're hoping to focus the show's conversation in particular on the connections between global energy and the financial sectors, and give some interesting new perspectives on how those two sectors intertwine.

Hill Vaden (01:30):
Yeah. Those two sectors have been closely intertwined over these past few weeks on the back of COVID, and negative oil prices, and everything else. So today, we've got with us Karim Fawaz, an oil expert, one of our global oil experts, as well as Reed Olmstead, who's an expert in both North America oil and gas supply. Welcome, guys.

Karim Fawaz (01:53):
Hey, thanks for having us.

Reed Olmstead (01:54):
Thank you, guys.

Breanne Doughtery (01:56):
Just on the back of what you mentioned there, Hill, I don't think there's anybody that would deny that it's been an exciting, terrifying, I don't know what other adjectives are appropriate to use here, last couple of months in the general world, let alone financial markets and energy markets. So how about we start on that very broad subject? And we have Karim here actually, who's been spearheading a lot of discussion internally and externally over the last few days on sort of this rapid rally that we've had at the front of the curve, in particular, in oil prices, since just early April, where, of course, we saw the negative pricing, which was always a very popular topic for a few days.

Breanne Doughtery (02:42):
But teen type pricing and then now, all of a sudden, to be above that $30 dollar, in the $30 to $35 dollar range on WTI. This is a drastic change in a relatively short amount of time. Maybe he can give us a little bit more perspective on what he thinks is actually driving that.

Karim Fawaz (02:58):
Sure. Yeah. As you mentioned, I think the velocity of the price moves we've been seeing is pretty astounding when you think about it. Obviously we were negative on April 20th, 21st, we are now trading in the mid 30s for WTI. We've had a relatively smooth rally over the past four weeks across both brand and WTI prices. So you're starting to move away from that fear of catastrophe mode which we were in, in March and April. Now towards that, I would say, cautious and potentially slightly less cautious optimism about the recovery as you go into the second half of this year.

Karim Fawaz (03:41):
Countries are trying to reopen, movement restrictions are starting to be lifted around the world, and shut-ins are happening in the supply side around the world, so that kind of narrative is forming and prices are getting taken along for the ride. I think the key thing that's been happening over the past month that's been interesting is just how fast this has all happened in a crisis that's, I mean, arguably, but probably quite visibly, one of the deepest demand crises in the history of the oil market.

Hill Vaden (04:16):
You said yesterday, in a note that you released to clients, that I think the top headline on it was, "If it feels too good to be true it probably is."

Karim Fawaz (04:24):
Yeah. What we tried to kind of talk through in the note yesterday was prices rallying in itself from where we are at the end of April is not necessarily out of the ordinary even given the market conditions. The WTI was trading in late April at around $12 to $15 a barrel. Forget the negative price breach, but over the next few first days of the June 2020 contract. So from that level, it made sense as the system as a whole, especially the US oil system started to rebound and we stopped building stocks, crude stocks, at the rate we were building.

Karim Fawaz (05:01):
We were building around 20 to 30 million barrels a week. We're now flat to declining on a weekly basis in crude inventories. So as the physical system starts to rebound, it's not surprising that the forward curve started to flatten and that super contango that you needed to incentivize storage started to fade. The problem is, that accounts for two-thirds of the rally I would say. It's the last third that's starting to get us a bit worried about overheating.

Karim Fawaz (05:28):
The reason is, as you move into that mid $30 a barrel range, the forces that caused that rally, which was the tightening of supply around the world, will start to come under threat as prices start to move higher and closer to normal levels, so to speak.

Hill Vaden (05:47):
And some of the enthusiasm, or the rapid climb back, is any of that just traffic? I mean, I'm looking around Houston right now and see traffic jams, right? And it feels like people are driving again. Is there something? I'm sure there's more to the equation than that?

Karim Fawaz (06:05):
No, I think the demand narrative is quite important. The problem is with demand is very opaque in general. So there's not a lot of hard data in terms of oil demand figures that confirm to what extent global demand is recovering. We're starting to see gasoline demand in the United States recover modestly. But visibly, on a week to week basis, we're seeing it through our work with OPIS, which is a team within S&P Global, that tracks gasoline sales around the US on a weekly basis.

Karim Fawaz (06:35):
So we are seeing that demand pick up. But I think in terms of the global oil market, it's hard to glean. But the narrative is, as most countries around the world are moving from kind of full shutdown, to reopening, driving returns, is that the worst is over on demand. And as you kind of start that climb back, and supply is still on the downward trending trajectory, the market will start to see that improvement. So that's, I think, fueling a lot of that price upside.

Breanne Doughtery (07:03):
But when we talk about supply, am I right in interpreting that there's kind of two stories going on here. There's the physical rebalancing need storyline, which would be that of shut-ins. And I think that's what you're talking about when we start talking about the weakening of drivers and enforcers of this correction that did happen. But then there's also the others, which is a very important structural story, which is the retrenchment in capex spend amongst producers, particularly in North America, and what that means for structural supply declines, not just in 2020, or the immediate term, but actually is a longer term trend. Is that correct?

Karim Fawaz (07:49):
Exactly. I think, currently, that's exactly correct. And what's happened in the market is you have two speeds of response. What the market has faced, in March and April, was the size of the surplus was such, if you go back a couple of months and try to put it in perspective. As we came into this crisis, the scale of the demand dropped and the scale of the oversupply in the market was such that the risk and the fear of the lack of storage capacity in the market, both in terms of vessels at sea and tanks on land, was such that you needed a mechanism to curtail supply around the world faster than capex.

Karim Fawaz (08:27):
That was the incentive for the shut-in pressure that we've seen over the past couple of months. And that's played out, particularly in the US, but also through the cuts implemented by OPEC+, and their partners, but also in Canada and Norway and in countries around the world. That's kind of the immediate supply response. There is a slower response, or relatively slower, I would say, which is through capex and that is going to play out for an extended period of time here over the next few years.

Karim Fawaz (08:56):
Which is, in the US in terms of capex, and Reed will definitely talk more through that. But also in terms of FIDs of, or sanctioning of new projects around the world, that we've seen grind to a halt. So that hangover if you want, so to speak, in terms of global supply is going to play out, is going to continue playing out here as prices rally back up in the short term. The risk is that that first level of supply response, that I was talking about, the reactive supply response, that starts to unwind.

Breanne Doughtery (09:27):
Okay. So we're talking about shut-ins maybe starting to unwind in this low 30 to high 30 type range, but we're not yet talking about changes in the underlying narrative of a reduced capex program moving into 2021. That needs a higher price point. Is that right Reed? Or do think that $35 sounds good for producers?

Reed Olmstead (09:53):
Well, definitely we're seeing the most acute response being in shut-ins. We've seen almost weekly, if not several times a week, operators making shut-in announcements, but the pace of that has really started to dwindle. We track rigs. We've seen rig count relatively flat for the last couple weeks. So the rig counts is due to the suffocation of capex. But then, the shut-ins are just the acute response.

Reed Olmstead (10:25):
And so we're starting to see operators, they're still, obviously, in North America, it's analog, it's not digital, it's not an NOC will produce or not produce it, what is every individual operator going to do? And so it's a very analog continuous decision process. And so we're starting to see some operators say, "Okay, we're getting comfortable with this." We've actually seen shut-ins occur faster than we were expecting. Very responsive.

Reed Olmstead (11:01):
The announcement that that Karim talked about at OPEC+ is having very good constructive pressure on price, or at least a significant production of downward pressure on price. So we are starting to see hope of these shut-ins coming back. They may come back stronger, they may come back weaker. That's one of the problems with shutting-in unconventionals is nobody really knows what happened, because we've never done this. So that's the acute side of it. The chronic side, or the longer term implication is, look, we've got this massive global demand destruction that's going to take a while to heal itself.

Reed Olmstead (11:41):
I think the projections are maybe 18 to 24 months. And so when we had the US growing a half million barrels a day this year, in the first half of them flat for 18 months, I mean, that was on stagnant or very low demand growth globally. And that was our original outlook in January. Now, we have this huge drop in demand. And so, that's where we see the capex coming in longer term, having implications on pushing down supply in that manner.

Hill Vaden (12:08):
So you mentioned the shut-in questions, that you don't really know how quickly these will come back. And I think your team published a report this week looking at how shut-ins don't always come back to the level that one may have expected. Is there perhaps an incentive to un-shut-in your well more sooner than otherwise to avoid any long term decay? Is that in the calculus of some of these management teams?

Reed Olmstead (12:43):
The problem with shut-ins is you have to think about the financial implication. If you really just want to take the most production off the market quickest, you're going to shut-in your newest wells in unconventionals, those the ones that are producing the highest, but those are also the ones most susceptible to coming back at a lower production rate. Our study, and I hate speaking in averages, because there's so many nuances to what goes to what happens. But typically, you stand a much reduced likelihood of destroying productivity or potential productivity if a well is three years or older.

Reed Olmstead (13:25):
But when you think about it, those aren't the wells that are producing the most volumes. You've gone from 1,000 barrels a day, or [inaudible 00:13:35], down to 75 barrels a day on a... that's three years old. So you've got to shut-in a hole. But again, there's a whole distribution in this. What we did see is operators were very pro... in what they did. A lot of operators just said, "We're shutting everything," and regardless of vintage. I think some are probably more deliberate in how they went about it. But again, it's still very much being felt out. Probably a lot of people listen to the SPE call the other day and the theory there was, older wells bulls hold up Because they used higher quality sand.

Reed Olmstead (14:14):
And so when, when the fractures try to close up, the sand won't be deconstructed to the same level that in basin, natural sand. So there are a lot of factors that we just don't know on the restart. But suffice to say, operators were very responsive to price. They'll try to be equally responsive on the upside, I think, at least in bringing back shut-in production. They will not be responsive in capex deployment.

Breanne Doughtery (14:44):
This is a very different scenario, for instance, than what we would have seen just five years ago roughly, in the previous downturn, right? I mean, [crosstalk 00:14:54] people wanting to bring back production from shut-ins, that's one thing. Sorry, go ahead.

Reed Olmstead (14:57):
So the price didn't get as bad. In fact, I think it was just a couple years ago that we're all high fiving each other because price got over 50. And now, we're high fiving each other because price is over 30. So those-

Breanne Doughtery (15:09):
True.

Reed Olmstead (15:09):
... the $20 between 30 And 50 is a lot bigger than the $20 from 80 to 100, so we never got to this point, and the outlook was never as dire as it was back then. I mean, I think right now, as Karim would attest, look, it's not just bad now, the expectation is it's going to be bad and that's the best outcome. There's talk about a second wave of COVID.

Reed Olmstead (15:36):
Nobody is really talking about, "By the fall, we'll have a vaccine." That's the hope, but I think most people are probably seeing more downside risk than upside risk to the price outlook right now. Whereas back in 2015, and '16, everybody was a bit more optimistic.

Breanne Doughtery (15:56):
But I think it's probably safe to say that there's going to be a little bit more hesitancy amongst producers to jump on a price bandwagon this time around.

Reed Olmstead (16:06):
Yeah, I would say that. The main reason for that is they've been pummeled in the markets. These guys, their stock price not only has gone down because the value of their product has gone down, but just the financial institutions are completely uninterested in the investment. If you've tracked the industry for North America for the last few years, nobody... People talk about growth, but for the last 18 to 24 months, the leading line has been cashflow, visibility to cash flow, cash flow neutrality, pay down debt, stock repurchases, things like that.

Reed Olmstead (16:48):
That was all well and good at a 45 to $50 price. Nobody was really stress testing their portfolio 25 or $30. Now, they're not concerned about growth. They're fully focused, one track mind on cash flow. I think if we saw price go to 45, most operators are going to try to capture that to prove their diligence in going cashflow positive, that's what investors want, that's what it's going to take to get their stock price up, and to re attract investors. Even if we saw price come back, I think operators will be very reluctant to throw a whole bunch of money back into the system.

Hill Vaden (17:33):
Throw a whole bunch of money back into the system in terms of capex or-

Reed Olmstead (17:37):
Yes.

Hill Vaden (17:38):
But if you think about the shut-in question and maybe you think about OPEC, where there's traditional cheaters in a year, I'm getting no cash flow from a shut-in well. The best thing for me as an independent operator is to have you shut-in your well while I continue to fill my pipeline. Are there things that you're watching outside of capex-

Reed Olmstead (18:05):
As long as you're covering your variable [inaudible 00:18:08] flow a well to an existing well. What we saw back last month is nobody could cover their variable costs, so they said, "Why am I selling my product at an absolute unquestionable loss?" To turn it back on, they're going to want a little more faith because there is a risk of damaging equipment, damaging the reservoir. Sometimes, there is cost to restart.

Reed Olmstead (18:32):
You may have to replace a pump or deal with cleaning out water. There are lots of things that could be associated with restarting. But in the end, it's a lot cheaper to restart a two year old well than to drill a new well. So the capital necessary to bring back shut-in's is just a small fraction of restarting your drilling program. So it makes sense, as long as you can get that cash flow and you feel confident, turn your wells back on, but be a little bit more judicious and neutral.

Breanne Doughtery (19:08):
It's interesting that you mentioned the hesitancy or the potential challenges that a producer might look at when they talk about restarting a capex program or a growth capex program, I guess we'll say. As a quick transition over onto the gas side, I would have to say as I look at gas price risk in North America over the next 18 months, I keep asking Kareem a bunch of questions about oil. Much to his chagrin, I'm sure. Because at the end of the day, what we're asking on the gas side is we've been telling gas producers, or non associated gas producers specifically, "Look, hold back, hold back for the last X number of years.

Breanne Doughtery (19:52):
We want just a little bit from you this year, a little bit from you that year." Particularly in 2020, the narrative has been hold back everything you can because we're grossly over supplied for this year. But now, the story is also in 4Q, we want you to turn on a dime and then we want you to grow at a really robust rate for the 12 subsequent months because we have this associated gas coming into the system because of what's happening with oil. I mean, is that going to be accomplished within these producers? How do they get incentivized to pursue that growth program so quickly off the back of this retrenchment story that's been forced on them in 2020?

Reed Olmstead (20:34):
Gas Producers are used to being the whipping boys of the industry. No, I think you're exactly right. We are taking a lot of the associated gas out of the system. You alluded to it. We were looking at a declining gas supply already this year. We were going to go from like 94 down to 84 BCF a day just this year because we just don't need the gas.

Reed Olmstead (21:01):
When the expectation was associated gas is going to grow, well gee Mr. producer in the Haynesville and private equity shop running some rigs in the Haynesville... Sorry, the large producer in the in the Marcellus, no, you guys just wait your turn, wait your turn, wait your turn. Well now, you're right, it has just been a complete flip. The price signal will be there and our price signal goes from like 290 up to north of 350 between fourth quarter this year in first quarter next year.

Reed Olmstead (21:35):
I'm not sure that operators are going to be able to pivot on a dime at that point because they are going to need cash flow to put rigs back in the field. So there may be a little bit of lag between the price signal and the response in the field, but I think next year is poised to be a really good year if you're a gas operator. I think that is going to be the best year they've had in maybe a decade, which is a shame because gas is only going to 350, but I've been doing this long enough to remember when when it was down near less than $1.

Breanne Doughtery (22:15):
So the guys that have managed to stick around are going to see it good here?

Reed Olmstead (22:20):
Yeah, they will, they will.

Hill Vaden (22:21):
Is it a good year or is it just the best year in a decade?

Breanne Doughtery (22:27):
Now we're splitting hairs,

Hill.Reed Olmstead (22:32):
When you've been neck deep in water, at least now you can get your arms out. So it's not going to be as bad. It is setting yourself up to be good. Then you move into sort of the longer term of what happens with the LNG and domestic demand and how those play out. There's much less transparency, there's pushback on pipelines out of Appalachia. We had been thinking, "Golly, we're going to have so much excess pipeline because associated gas taking the market share." Well now, with all that lack of associate, we're going to need to pull on Appalachian more.

Reed Olmstead (23:12):
But there are environmental pressures not to the pipelines. So if that happens, gee, now we're going to have an even higher gas price because we're going to have to go back to the Barnett, or the Fayetteville, or some other place. So there's a lot of uncertainty I think in the gas markets, not necessarily through into next year, but moving into mid '22 and beyond. Sort of the things that set up that will really push price up or down at that point are going to play out over the next 12 months. It's just so much uncertainty in that.

Hill Vaden (23:50):
So looking at all this, I mean, there continues to be a huge focus on North America, which has been soaking all the capex for upstream. That's an exaggeration, but a lot of capex for upstream over the past however many years led by the Permian. I mean, Kareem, if you're looking at global oil markets as a whole, I mean, where are some other regions that we want to be paying attention to, call it the immediate term? If maybe we have gotten ahead of ourselves and if there is this kind of sleeper shut-in that could hit the market much more quickly than a rig campaign begins?

Karim Fawaz (24:25):
Yeah, I mean, on the international side, if you look beyond the US, I mean obviously, the big shut-ins that we know of, that we've kind of seen and heard of are in Canada, Brazil, Norway. It's sort of spread out around the world. Volumetrically speaking, Canada is fairly significant. It's north of 500,000 barrels a day, but nothing is really material on the same scale as the US shut-ins have been, which is a million and a half, two plus million barrels a day.

Karim Fawaz (24:51):
Ultimately, it depends on how you define, and this is the trickiest part when you look international in the short term, the tricky part is defining the cuts that were committed by countries within that OPEC plus framework and how enforceable those cuts remain as the supply chain around the world starts to get some breathing room. As you start to have spare tankers in the global market, as you have the LCCs available, will Nigeria, will Angola, with some of these West African countries that are really reliant on oil revenues and oil cash flows, remain committed to those cuts that they committed to within the OPEC+ framework, when there is a spare tanker available to come and take that cargo, even at a price of 35, $40 a barrel or $30 a barrel.

Karim Fawaz (25:40):
That, I think, is going to be the biggest test as you get into this third quarter for a lot of these NOCs, and especially countries which are very reliant still on oil revenues. That cash flow is existential for a lot of these political systems and economies. And that incentive to cheat a historical OPEC parlance is very high, but even more so in these types of economic conditions, with the COVID impact on the economy, et cetera. So I think in the short term, a lot of these companies will be trying to kind of squeeze any dollar they can get. That's one of the key risks.

Karim Fawaz (26:14):
On top of that, overheating of the rally, what we were talking about earlier, in the short term is, as you move into this, the summer and demand does recover, I think the opening up of that room in the supply chain and creep up in prices will start to kind of create that incentive for supply to come back to the market even before we have time to work down the inventories, the massive inventories that we've built so far. In terms of medium and longer term capital, that's a much different question. And that's the segment...

Karim Fawaz (26:45):
So obviously, capex has been migrating to the US for the past decade or so, in terms of upstream, overall, as we look at the world. And over the next three to five years, it's very hard to see where that capital is coming from and getting invested in the upstream space. Obviously, this year, in terms of sanctioning of new projects coming into the year, we were expecting something north of two million barrels a day worth of projects, nameplate capacity, upstream projects getting sanctioned outside of the US and the Middle East.

Karim Fawaz (27:18):
Our forecasts now, after the virus, is probably negligible, or up to two, 300,000 barrels a day, so down more than 95%. So you're seeing that stalling of investment around the world and the companies are under severe pressure economically and financially, so that's going to be the first focus as we come out of this over the next few quarters is going to be repairing balance sheets and recovering before focus goes back to growth again around the world. That, in a way, is similar as you were talking about gas.

Karim Fawaz (27:53):
That, in a way, for us is a bit of a constructive setup for oil as you look down kind of over the horizon and towards the back half of 2021 and 2022, it does look a lot better, because we think that this supply destruction that's being brought now, separate from the shut-ins in the short term and the inventories. Assuming that surplus and that overhang in the market gets digested as you move out of this, this demand crisis and on the other side. The supply destruction that's been wrought here is such that it creates significant room in the market, in the medium term, for prices to edge up, especially if the US is less responsive. The threshold at which US producers move back into growth is higher than it was in 2017, as Reed was talking about.

Breanne Doughtery (28:44):
Please tell me if I read between the lines incorrectly on this, but in the near term, the ceiling's a little sticky on price? I mean, it's pretty hard to go above a certain level, but maybe in the medium term, actually, we could have some room for some bowls to run and, and a higher ceiling?

Karim Fawaz (29:05):
No, that's exactly right. So I think you read correctly there. In the short term, the problem structurally is that you have record inventories on the sidelines, floating storage, on shore storage. And you have a massive amount of spare capacity around the world, short term shut-ins, coordinated political shut-ins, economic, logistical shut-ins. So you have an amount of supply on the sidelines, that needs to come back into the market before you can start to see the front end of that curve significantly move higher.

Karim Fawaz (29:38):
Until that point, as supply moves higher, you're always susceptible to see that overshoot in terms of supply, renewed stock builds. That fear, I think, is going to be very difficult to dissipate in the market until you get both the demand certainty, so the vaccine or some demand certainty that you don't have a second wave down the pipe, and that you don't have that supply sitting on the sidelines, that's waiting for the opportunity to come back into the market.

Karim Fawaz (30:07):
Until you clear those two major hurdles, I think it's difficult to see the front end of the curve move into that steep backwardation and higher momentum in terms of the ceiling on prices. But as you clear those hurdles, I think it becomes a lot more... It's easier to rally above that threshold, the $50-plus a barrel range, and that's where we see prices trending towards the back half of 2021 and into 2022.

Hill Vaden (30:35):
When we look at the beginning of the year, I mean, before COVID, I think... I mean, I know Reed, you and I were talking about this being a year with increased bankruptcies in North America and Korean metal that there was still a supply of overhang, even if we hadn't shut down the world for two months. Right? And there was an OPEC price war. COVID made a bad problem worse in terms of, I guess, oil markets. When did those conversations, I guess the bankruptcy conversation never left us, but when does the OPEC price war conversation reenter the discussion?

Karim Fawaz (31:15):
Yeah, I mean, I think everything is put on hold. You had that strategic divergence within OPEC, obviously, OPEC, and its partners, particularly Russia, were stuck in a really untenable management exercise. What started as a tactical six month cut, ended up being a four year effort with repeated cuts, and relapsing remitting surpluses, and constant kind of thinking through how to manage this market. I think coming into this year, they were stuck in that game and that strategic divergence between Russia and Saudi Arabia on what price level is required to both keep the US at bay in terms of in terms of production, and get the prices their economies need, was a very big kind of point of friction between both countries.

Karim Fawaz (32:00):
That faded a bit through this crisis, because of the urgency and because of the focus being first and foremost on short term survival, and then the price environment. But I think, as you come out on the other side of this and towards the latter half of this year, and as you go into 2021, those strategic conversations will have to come back and be addressed. And what price Saudi Arabia wants for oil and how they think about the oil market in the medium term and in the next few years.

Karim Fawaz (32:28):
I think that's going to become a conversation again. But at the moment, the focus is still very much on getting through the next few weeks and months. And shielding that price floor as high as possible, even if it is still well below what their economy and the economies of their kind of Gulf partners and OPEC members require.

Breanne Doughtery (32:50):
I think it's such an interesting time right now, because through all these conversations, what I would venture to say unprecedented in the sense that we can talk about the short term and there's all this risk around the short term on both the demand and supply side and price risk that comes along with that. But as we look to the impacts of this crisis, I mean, they're going to be far reaching. We're talking about potential long term changes in demand behavior. And as we talked about changes in producer behavior, or supply behavior. So needless to say, I'm going to guess we're going to have you both back on this podcast on several occasions.

Karim Fawaz (33:30):
Yeah.

Breanne Doughtery (33:32):
Because we could talk for hours and I think that, obviously, it's been a pivotal time period in the world as a whole, but specifically within energy markets, and within the connection between energy markets and financial markets, I think that this, let's say five to six month period is probably going to go down as one of the biggest transition points. And we really appreciate you guys chiming in on that.

Karim Fawaz (34:00):
Sure.

Hill Vaden (34:00):
Yeah. But I guess before we sign off, Reed, Karim, I mean, looking at this and going back again to the idea at the beginning of this year, and for the past couple of years, the North American shale co sector, shale companies have been uninvestable by many views. Does, call it, the prudence that we've seen over the past couple weeks, can this sector emerge as investment worthy? Are these behaviors short term or do we see things coming back to "normal"?

Reed Olmstead (34:39):
In the North American industry, I think there are structural changes. The question is why? And there are two answers. One is because we're just going to see companies go away. I guess there are three answers. One, we'll just see companies go away. And then I think the companies that are left will fall largely within two categories. Majors and large US companies that behave like majors.

Reed Olmstead (35:08):
We did a look a few years ago of how many operators were in the Permian and how many operators were there in deep water. And there were over 1,000 Permian operators and seven deep water operators. And so what we saw is, there's just been culling of companies in the US over the last five, six years, as they get acquired, or they just go out of business. And so what we're going to see, it's the companies that can weather the storm, are going to start behaving much more like their competitors, which we saw come in the last couple of years, being the majors.

Reed Olmstead (35:46):
We're seeing the majors make a larger position in the United States unconventional system. And so an investor is going to say, "I could buy a stock that that gives me a good return. Or I could buy a growth stock that gets crushed every time price goes down." The leverage on it is just so much higher. And they continue to vote with their dollars, largely because of what Saudi is selling. I think that what we're going to see is this is a structural change.

Reed Olmstead (36:16):
When we talk to CEOs, it is a structural change to investing, to change the investment thesis, or the investment proposition that these companies give to their buyers, of, "Look, we've stress tested our portfolio at $30. We plan on 50. We stress it at 30. And we give a lot of cash back." And that's what investors want. And so that's why our longer term outlook is very muted compared to where we were even just six months ago.

Karim Fawaz (36:45):
Yeah, I mean, just to take it back in terms of the global oil market. The problem always has been over the past several years, if you think back, I mean, the reason why people looked at this and the shale sector specifically, but oil and gas as a whole as a share of the S&P, has been declining for the past decade at a pretty fast clip. So as you think about it as a segment, as an investable segment, the problem has been, as really the disruption that the US shale has brought on to the sector, has meant that you're always in an untenable situation in terms of supply demand dynamics.

Karim Fawaz (37:20):
And the fundamentals will constantly overwhelm any investment made by these companies, and ultimately, take a toll on financials. What's been happening here, what's interesting is, we've talked to a lot of clients for the past several years. And if I think back to the number one question since 2017, or scenario that clients have tried to run past us, it's always been some variant of why doesn't Saudi Arabia just flood the market for another quarter, force the shale guys to rethink their business model once and for all, and start with a clean slate, hit the reset button and set us on a more sustainable and investable trajectory?

Karim Fawaz (37:59):
Our response to that historically has been, which has been kind of validated by Saudi Arabia's efforts and OPEC's efforts for the past several years through repeated cuts has been, it's really difficult and unpalatable that price environment from an economic and political standpoint for a lot of these countries and these producers. What's happening now is whether they want to or not, what the COVID crisis has done is that it has created this price environment. And there are really even unwilling passengers for this supply shakeout that they sought to avoid over the past three years. And as that shakeout takes its toll on the US, as a system and on global investment.

Karim Fawaz (38:37):
I think it does achieve some sort of a shakeout in terms of global supply as you look over the horizon, that does start to appear for the first time. I would say since this US shale revolution really began, the sector starts to look a lot more attractive. Now the problem is, and this is where you could go, either side on this argument is the demand story in the medium to long term is looking more tenuous. The peak demand narrative is getting stronger. So the problem is that interplay between the supply side of the equation looks more constructive than it did coming into this year as you look over the horizon.

Karim Fawaz (39:20):
But the question is, will some of the structural changes on demand accelerate that demand peak and offset a lot of that benefit? I think we'll find out over the next couple of quarters and years as we come out of this, but that's going to be one of the key themes going forward

Hill Vaden (39:38):
All right. Sounds like a theme that we can address in another [inaudible 00:39:42] segue Karim. All right. Well, thanks, everybody. Breanne, I think we can call that a wrap.

Breanne Doughtery (39:53):
I think so.

Hill Vaden (39:56):
We'll sign off and we'll have you back again, once we go viral, as you guys [crosstalk 00:40:03]-

Breanne Doughtery (40:03):
Thanks to you both,

Karim and Reed.

Karim Fawaz (40:05):
Thanks, guys.

Reed Olmstead (40:06):
Thanks Breanne. Good talk.

Karim Fawaz (40:07):
Bye. Bye guys.

Speaker 1 (40:10):
To read additional insights from our team of experts, visit our blog at www.ihsmarkit.com/energyblog. You can also find our experts on social media by searching for S&P Global Energy on either Twitter or LinkedIn.

Speaker 6 (40:24):
This podcast contains information and insights copyrighted by S&P Global. To learn more about S&P Global Market Energy Solutions visit ihsmarket.com/energy. That's I-H-S-M-A-R-K-I-T dot com forward slash energy.

Breanne Doughtery (02:42):
But teen type pricing and then now, all of a sudden, to be above that $30 dollar, in the $30 to $35 dollar range on WTI. This is a drastic change in a relatively short amount of time. Maybe he can give us a little bit more perspective on what he thinks is actually driving that.

Karim Fawaz (02:58):
Sure. Yeah. As you mentioned, I think the velocity of the price moves we've been seeing is pretty astounding when you think about it. Obviously we were negative on April 20th, 21st, we are now trading in the mid 30s for WTI. We've had a relatively smooth rally over the past four weeks across both brand and WTI prices. So you're starting to move away from that fear of catastrophe mode which we were in, in March and April. Now towards that, I would say, cautious and potentially slightly less cautious optimism about the recovery as you go into the second half of this year.

Karim Fawaz (03:41):
Countries are trying to reopen, movement restrictions are starting to be lifted around the world, and shut-ins are happening in the supply side around the world, so that kind of narrative is forming and prices are getting taken along for the ride. I think the key thing that's been happening over the past month that's been interesting is just how fast this has all happened in a crisis that's, I mean, arguably, but probably quite visibly, one of the deepest demand crises in the history of the oil market.

Hill Vaden (04:16):
You said yesterday, in a note that you released to clients, that I think the top headline on it was, "If it feels too good to be true it probably is."

Karim Fawaz (04:24):
Yeah. What we tried to kind of talk through in the note yesterday was prices rallying in itself from where we are at the end of April is not necessarily out of the ordinary even given the market conditions. The WTI was trading in late April at around $12 to $15 a barrel. Forget the negative price breach, but over the next few first days of the June 2020 contract. So from that level, it made sense as the system as a whole, especially the US oil system started to rebound and we stopped building stocks, crude stocks, at the rate we were building.

Karim Fawaz (05:01):
We were building around 20 to 30 million barrels a week. We're now flat to declining on a weekly basis in crude inventories. So as the physical system starts to rebound, it's not surprising that the forward curve started to flatten and that super contango that you needed to incentivize storage started to fade. The problem is, that accounts for two-thirds of the rally I would say. It's the last third that's starting to get us a bit worried about overheating.

Karim Fawaz (05:28):
The reason is, as you move into that mid $30 a barrel range, the forces that caused that rally, which was the tightening of supply around the world, will start to come under threat as prices start to move higher and closer to normal levels, so to speak.

Hill Vaden (05:47):
And some of the enthusiasm, or the rapid climb back, is any of that just traffic? I mean, I'm looking around Houston right now and see traffic jams, right? And it feels like people are driving again. Is there something? I'm sure there's more to the equation than that?

Karim Fawaz (06:05):
No, I think the demand narrative is quite important. The problem is with demand is very opaque in general. So there's not a lot of hard data in terms of oil demand figures that confirm to what extent global demand is recovering. We're starting to see gasoline demand in the United States recover modestly. But visibly, on a week to week basis, we're seeing it through our work with OPIS, which is a team within S&P Global, that tracks gasoline sales around the US on a weekly basis.

Karim Fawaz (06:35):
So we are seeing that demand pick up. But I think in terms of the global oil market, it's hard to glean. But the narrative is, as most countries around the world are moving from kind of full shutdown, to reopening, driving returns, is that the worst is over on demand. And as you kind of start that climb back, and supply is still on the downward trending trajectory, the market will start to see that improvement. So that's, I think, fueling a lot of that price upside.

Breanne Doughtery (07:03):
But when we talk about supply, am I right in interpreting that there's kind of two stories going on here. There's the physical rebalancing need storyline, which would be that of shut-ins. And I think that's what you're talking about when we start talking about the weakening of drivers and enforcers of this correction that did happen. But then there's also the others, which is a very important structural story, which is the retrenchment in capex spend amongst producers, particularly in North America, and what that means for structural supply declines, not just in 2020, or the immediate term, but actually is a longer term trend. Is that correct?

Karim Fawaz (07:49):
Exactly. I think, currently, that's exactly correct. And what's happened in the market is you have two speeds of response. What the market has faced, in March and April, was the size of the surplus was such, if you go back a couple of months and try to put it in perspective. As we came into this crisis, the scale of the demand dropped and the scale of the oversupply in the market was such that the risk and the fear of the lack of storage capacity in the market, both in terms of vessels at sea and tanks on land, was such that you needed a mechanism to curtail supply around the world faster than capex.

Karim Fawaz (08:27):
That was the incentive for the shut-in pressure that we've seen over the past couple of months. And that's played out, particularly in the US, but also through the cuts implemented by OPEC+, and their partners, but also in Canada and Norway and in countries around the world. That's kind of the immediate supply response. There is a slower response, or relatively slower, I would say, which is through capex and that is going to play out for an extended period of time here over the next few years.

Karim Fawaz (08:56):
Which is, in the US in terms of capex, and Reed will definitely talk more through that. But also in terms of FIDs of, or sanctioning of new projects around the world, that we've seen grind to a halt. So that hangover if you want, so to speak, in terms of global supply is going to play out, is going to continue playing out here as prices rally back up in the short term. The risk is that that first level of supply response, that I was talking about, the reactive supply response, that starts to unwind.

Breanne Doughtery (09:27):
Okay. So we're talking about shut-ins maybe starting to unwind in this low 30 to high 30 type range, but we're not yet talking about changes in the underlying narrative of a reduced capex program moving into 2021. That needs a higher price point. Is that right Reed? Or do think that $35 sounds good for producers?

Reed Olmstead (09:53):
Well, definitely we're seeing the most acute response being in shut-ins. We've seen almost weekly, if not several times a week, operators making shut-in announcements, but the pace of that has really started to dwindle. We track rigs. We've seen rig count relatively flat for the last couple weeks. So the rig counts is due to the suffocation of capex. But then, the shut-ins are just the acute response.

Reed Olmstead (10:25):
And so we're starting to see operators, they're still, obviously, in North America, it's analog, it's not digital, it's not an NOC will produce or not produce it, what is every individual operator going to do? And so it's a very analog continuous decision process. And so we're starting to see some operators say, "Okay, we're getting comfortable with this." We've actually seen shut-ins occur faster than we were expecting. Very responsive.

Reed Olmstead (11:01):
The announcement that that Karim talked about at OPEC+ is having very good constructive pressure on price, or at least a significant production of downward pressure on price. So we are starting to see hope of these shut-ins coming back. They may come back stronger, they may come back weaker. That's one of the problems with shutting-in unconventionals is nobody really knows what happened, because we've never done this. So that's the acute side of it. The chronic side, or the longer term implication is, look, we've got this massive global demand destruction that's going to take a while to heal itself.

Reed Olmstead (11:41):
I think the projections are maybe 18 to 24 months. And so when we had the US growing a half million barrels a day this year, in the first half of them flat for 18 months, I mean, that was on stagnant or very low demand growth globally. And that was our original outlook in January. Now, we have this huge drop in demand. And so, that's where we see the capex coming in longer term, having implications on pushing down supply in that manner.

Hill Vaden (12:08):
So you mentioned the shut-in questions, that you don't really know how quickly these will come back. And I think your team published a report this week looking at how shut-ins don't always come back to the level that one may have expected. Is there perhaps an incentive to un-shut-in your well more sooner than otherwise to avoid any long term decay? Is that in the calculus of some of these management teams?

Reed Olmstead (12:43):
The problem with shut-ins is you have to think about the financial implication. If you really just want to take the most production off the market quickest, you're going to shut-in your newest wells in unconventionals, those the ones that are producing the highest, but those are also the ones most susceptible to coming back at a lower production rate. Our study, and I hate speaking in averages, because there's so many nuances to what goes to what happens. But typically, you stand a much reduced likelihood of destroying productivity or potential productivity if a well is three years or older.

Reed Olmstead (13:25):
But when you think about it, those aren't the wells that are producing the most volumes. You've gone from 1,000 barrels a day, or [inaudible 00:13:35], down to 75 barrels a day on a... that's three years old. So you've got to shut-in a hole. But again, there's a whole distribution in this. What we did see is operators were very pro... in what they did. A lot of operators just said, "We're shutting everything," and regardless of vintage. I think some are probably more deliberate in how they went about it. But again, it's still very much being felt out. Probably a lot of people listen to the SPE call the other day and the theory there was, older wells bulls hold up Because they used higher quality sand.

Reed Olmstead (14:14):
And so when, when the fractures try to close up, the sand won't be deconstructed to the same level that in basin, natural sand. So there are a lot of factors that we just don't know on the restart. But suffice to say, operators were very responsive to price. They'll try to be equally responsive on the upside, I think, at least in bringing back shut-in production. They will not be responsive in capex deployment.

Breanne Doughtery (14:44):
This is a very different scenario, for instance, than what we would have seen just five years ago roughly, in the previous downturn, right? I mean, [crosstalk 00:14:54] people wanting to bring back production from shut-ins, that's one thing. Sorry, go ahead.

Reed Olmstead (14:57):
So the price didn't get as bad. In fact, I think it was just a couple years ago that we're all high fiving each other because price got over 50. And now, we're high fiving each other because price is over 30. So those-

Breanne Doughtery (15:09):
True.

Reed Olmstead (15:09):
... the $20 between 30 And 50 is a lot bigger than the $20 from 80 to 100, so we never got to this point, and the outlook was never as dire as it was back then. I mean, I think right now, as Karim would attest, look, it's not just bad now, the expectation is it's going to be bad and that's the best outcome. There's talk about a second wave of COVID.

Reed Olmstead (15:36):
Nobody is really talking about, "By the fall, we'll have a vaccine." That's the hope, but I think most people are probably seeing more downside risk than upside risk to the price outlook right now. Whereas back in 2015, and '16, everybody was a bit more optimistic.

Breanne Doughtery (15:56):
But I think it's probably safe to say that there's going to be a little bit more hesitancy amongst producers to jump on a price bandwagon this time around.

Reed Olmstead (16:48):
That was all well and good at a 45 to $50 price. Nobody was really stress testing their portfolio 25 or $30. Now, they're not concerned about growth. They're fully focused, one track mind on cash flow. I think if we saw price go to 45, most operators are going to try to capture that to prove their diligence in going cashflow positive, that's what investors want, that's what it's going to take to get their stock price up, and to re attract investors. Even if we saw price come back, I think operators will be very reluctant to throw a whole bunch of money back into the system.

Hill Vaden (17:33):
Throw a whole bunch of money back into the system in terms of capex or-

Reed Olmstead (17:37):
Yes.

Hill Vaden (17:38):
But if you think about the shut-in question and maybe you think about OPEC, where there's traditional cheaters in a year, I'm getting no cash flow from a shut-in well. The best thing for me as an independent operator is to have you shut-in your well while I continue to fill my pipeline. Are there things that you're watching outside of capex-

Reed Olmstead (18:05):
As long as you're covering your variable [inaudible 00:18:08] flow a well to an existing well. What we saw back last month is nobody could cover their variable costs, so they said, "Why am I selling my product at an absolute unquestionable loss?" To turn it back on, they're going to want a little more faith because there is a risk of damaging equipment, damaging the reservoir. Sometimes, there is cost to restart.

Reed Olmstead (18:32):
You may have to replace a pump or deal with cleaning out water. There are lots of things that could be associated with restarting. But in the end, it's a lot cheaper to restart a two year old well than to drill a new well. So the capital necessary to bring back shut-in's is just a small fraction of restarting your drilling program. So it makes sense, as long as you can get that cash flow and you feel confident, turn your wells back on, but be a little bit more judicious and neutral.

Breanne Doughtery (19:08):
It's interesting that you mentioned the hesitancy or the potential challenges that a producer might look at when they talk about restarting a capex program or a growth capex program, I guess we'll say. As a quick transition over onto the gas side, I would have to say as I look at gas price risk in North America over the next 18 months, I keep asking Kareem a bunch of questions about oil. Much to his chagrin, I'm sure. Because at the end of the day, what we're asking on the gas side is we've been telling gas producers, or non associated gas producers specifically, "Look, hold back, hold back for the last X number of years.

Breanne Doughtery (19:52):
We want just a little bit from you this year, a little bit from you that year." Particularly in 2020, the narrative has been hold back everything you can because we're grossly over supplied for this year. But now, the story is also in 4Q, we want you to turn on a dime and then we want you to grow at a really robust rate for the 12 subsequent months because we have this associated gas coming into the system because of what's happening with oil. I mean, is that going to be accomplished within these producers? How do they get incentivized to pursue that growth program so quickly off the back of this retrenchment story that's been forced on them in 2020?

Reed Olmstead (20:34):
Gas Producers are used to being the whipping boys of the industry. No, I think you're exactly right. We are taking a lot of the associated gas out of the system. You alluded to it. We were looking at a declining gas supply already this year. We were going to go from like 94 down to 84 BCF a day just this year because we just don't need the gas.

Reed Olmstead (21:01):
When the expectation was associated gas is going to grow, well gee Mr. producer in the Haynesville and private equity shop running some rigs in the Haynesville... Sorry, the large producer in the in the Marcellus, no, you guys just wait your turn, wait your turn, wait your turn. Well now, you're right, it has just been a complete flip. The price signal will be there and our price signal goes from like 290 up to north of 350 between fourth quarter this year in first quarter next year.

Reed Olmstead (22:20):
Yeah, they will, they will.

Breanne Doughtery (22:27):
Now we're splitting hairs, Hill.

Reed Olmstead (23:12):
But there are environmental pressures not to the pipelines. So if that happens, gee, now we're going to have an even higher gas price because we're going to have to go back to the Barnett, or the Fayetteville, or some other place. So there's a lot of uncertainty I think in the gas markets, not necessarily through into next year, but moving into mid '22 and beyond. Sort of the things that set up that will really push price up or down at that point are going to play out over the next 12 months. It's just so much uncertainty in that.

Hill Vaden (23:50):
So looking at all this, I mean, there continues to be a huge focus on North America, which has been soaking all the capex for upstream. That's an exaggeration, but a lot of capex for upstream over the past however many years led by the Permian. I mean, Kareem, if you're looking at global oil markets as a whole, I mean, where are some other regions that we want to be paying attention to, call it the immediate term? If maybe we have gotten ahead of ourselves and if there is this kind of sleeper shut-in that could hit the market much more quickly than a rig campaign begins?

Karim Fawaz (24:25):
Yeah, I mean, on the international side, if you look beyond the US, I mean obviously, the big shut-ins that we know of, that we've kind of seen and heard of are in Canada, Brazil, Norway. It's sort of spread out around the world. Volumetrically speaking, Canada is fairly significant. It's north of 500,000 barrels a day, but nothing is really material on the same scale as the US shut-ins have been, which is a million and a half, two plus million barrels a day.

Karim Fawaz (24:51):
Ultimately, it depends on how you define, and this is the trickiest part when you look international in the short term, the tricky part is defining the cuts that were committed by countries within that OPEC plus framework and how enforceable those cuts remain as the supply chain around the world starts to get some breathing room. As you start to have spare tankers in the global market, as you have the LCCs available, will Nigeria, will Angola, with some of these West African countries that are really reliant on oil revenues and oil cash flows, remain committed to those cuts that they committed to within the OPEC+ framework, when there is a spare tanker available to come and take that cargo, even at a price of 35, $40 a barrel or $30 a barrel.

Karim Fawaz (25:40):
That, I think, is going to be the biggest test as you get into this third quarter for a lot of these NOCs, and especially countries which are very reliant still on oil revenues. That cash flow is existential for a lot of these political systems and economies. And that incentive to cheat a historical OPEC parlance is very high, but even more so in these types of economic conditions, with the COVID impact on the economy, et cetera. So I think in the short term, a lot of these companies will be trying to kind of squeeze any dollar they can get. That's one of the key risks.

Karim Fawaz (26:14):
On top of that, overheating of the rally, what we were talking about earlier, in the short term is, as you move into this, the summer and demand does recover, I think the opening up of that room in the supply chain and creep up in prices will start to kind of create that incentive for supply to come back to the market even before we have time to work down the inventories, the massive inventories that we've built so far. In terms of medium and longer term capital, that's a much different question. And that's the segment...

Karim Fawaz (26:45):
So obviously, capex has been migrating to the US for the past decade or so, in terms of upstream, overall, as we look at the world. And over the next three to five years, it's very hard to see where that capital is coming from and getting invested in the upstream space. Obviously, this year, in terms of sanctioning of new projects coming into the year, we were expecting something north of two million barrels a day worth of projects, nameplate capacity, upstream projects getting sanctioned outside of the US and the Middle East.

Karim Fawaz (27:18):
Our forecasts now, after the virus, is probably negligible, or up to two, 300,000 barrels a day, so down more than 95%. So you're seeing that stalling of investment around the world and the companies are under severe pressure economically and financially, so that's going to be the first focus as we come out of this over the next few quarters is going to be repairing balance sheets and recovering before focus goes back to growth again around the world. That, in a way, is similar as you were talking about gas.

Karim Fawaz (27:53):
That, in a way, for us is a bit of a constructive setup for oil as you look down kind of over the horizon and towards the back half of 2021 and 2022, it does look a lot better, because we think that this supply destruction that's being brought now, separate from the shut-ins in the short term and the inventories. Assuming that surplus and that overhang in the market gets digested as you move out of this, this demand crisis and on the other side. The supply destruction that's been wrought here is such that it creates significant room in the market, in the medium term, for prices to edge up, especially if the US is less responsive. The threshold at which US producers move back into growth is higher than it was in 2017, as Reed was talking about.

Breanne Doughtery (28:44):
Please tell me if I read between the lines incorrectly on this, but in the near term, the ceiling's a little sticky on price? I mean, it's pretty hard to go above a certain level, but maybe in the medium term, actually, we could have some room for some bowls to run and, and a higher ceiling?

Karim Fawaz (29:05):
No, that's exactly right. So I think you read correctly there. In the short term, the problem structurally is that you have record inventories on the sidelines, floating storage, on shore storage. And you have a massive amount of spare capacity around the world, short term shut-ins, coordinated political shut-ins, economic, logistical shut-ins. So you have an amount of supply on the sidelines, that needs to come back into the market before you can start to see the front end of that curve significantly move higher.

Karim Fawaz (30:07):
Until you clear those two major hurdles, I think it's difficult to see the front end of the curve move into that steep backwardation and higher momentum in terms of the ceiling on prices. But as you clear those hurdles, I think it becomes a lot more... It's easier to rally above that threshold, the $50-plus a barrel range, and that's where we see prices trending towards the back half of 2021 and into 2022.

Hill Vaden (30:35):
When we look at the beginning of the year, I mean, before COVID, I think... I mean, I know Reed, you and I were talking about this being a year with increased bankruptcies in North America and Korean metal that there was still a supply of overhang, even if we hadn't shut down the world for two months. Right? And there was an OPEC price war. COVID made a bad problem worse in terms of, I guess, oil markets. When did those conversations, I guess the bankruptcy conversation never left us, but when does the OPEC price war conversation reenter the discussion?

Karim Fawaz (31:15):
Yeah, I mean, I think everything is put on hold. You had that strategic divergence within OPEC, obviously, OPEC, and its partners, particularly Russia, were stuck in a really untenable management exercise. What started as a tactical six month cut, ended up being a four year effort with repeated cuts, and relapsing remitting surpluses, and constant kind of thinking through how to manage this market. I think coming into this year, they were stuck in that game and that strategic divergence between Russia and Saudi Arabia on what price level is required to both keep the US at bay in terms of in terms of production, and get the prices their economies need, was a very big kind of point of friction between both countries.

Karim Fawaz (32:00):
That faded a bit through this crisis, because of the urgency and because of the focus being first and foremost on short term survival, and then the price environment. But I think, as you come out on the other side of this and towards the latter half of this year, and as you go into 2021, those strategic conversations will have to come back and be addressed. And what price Saudi Arabia wants for oil and how they think about the oil market in the medium term and in the next few years.

Karim Fawaz (32:28):
I think that's going to become a conversation again. But at the moment, the focus is still very much on getting through the next few weeks and months. And shielding that price floor as high as possible, even if it is still well below what their economy and the economies of their kind of Gulf partners and OPEC members require.

Breanne Doughtery (32:50):
I think it's such an interesting time right now, because through all these conversations, what I would venture to say unprecedented in the sense that we can talk about the short term and there's all this risk around the short term on both the demand and supply side and price risk that comes along with that. But as we look to the impacts of this crisis, I mean, they're going to be far reaching. We're talking about potential long term changes in demand behavior. And as we talked about changes in producer behavior, or supply behavior. So needless to say, I'm going to guess we're going to have you both back on this podcast on several occasions.

Karim Fawaz (33:30):
Yeah.

Breanne Doughtery (33:32):
Because we could talk for hours and I think that, obviously, it's been a pivotal time period in the world as a whole, but specifically within energy markets, and within the connection between energy markets and financial markets, I think that this, let's say five to six month period is probably going to go down as one of the biggest transition points. And we really appreciate you guys chiming in on that.

Karim Fawaz (34:00):
Sure.

Reed Olmstead (35:08):
We did a look a few years ago of how many operators were in the Permian and how many operators were there in deep water. And there were over 1,000 Permian operators and seven deep water operators. And so what we saw is, there's just been culling of companies in the US over the last five, six years, as they get acquired, or they just go out of business. And so what we're going to see, it's the companies that can weather the storm, are going to start behaving much more like their competitors, which we saw come in the last couple of years, being the majors.

Reed Olmstead (35:46):
We're seeing the majors make a larger position in the United States unconventional system. And so an investor is going to say, "I could buy a stock that that gives me a good return. Or I could buy a growth stock that gets crushed every time price goes down." The leverage on it is just so much higher. And they continue to vote with their dollars, largely because of what Saudi is selling. I think that what we're going to see is this is a structural change.

Reed Olmstead (36:16):
When we talk to CEOs, it is a structural change to investing, to change the investment thesis, or the investment proposition that these companies give to their buyers, of, "Look, we've stress tested our portfolio at $30. We plan on 50. We stress it at 30. And we give a lot of cash back." And that's what investors want. And so that's why our longer term outlook is very muted compared to where we were even just six months ago.

Karim Fawaz (36:45):
Yeah, I mean, just to take it back in terms of the global oil market. The problem always has been over the past several years, if you think back, I mean, the reason why people looked at this and the shale sector specifically, but oil and gas as a whole as a share of the S&P, has been declining for the past decade at a pretty fast clip. So as you think about it as a segment, as an investable segment, the problem has been, as really the disruption that the US shale has brought on to the sector, has meant that you're always in an untenable situation in terms of supply demand dynamics.

Karim Fawaz (37:20):
And the fundamentals will constantly overwhelm any investment made by these companies, and ultimately, take a toll on financials. What's been happening here, what's interesting is, we've talked to a lot of clients for the past several years. And if I think back to the number one question since 2017, or scenario that clients have tried to run past us, it's always been some variant of why doesn't Saudi Arabia just flood the market for another quarter, force the shale guys to rethink their business model once and for all, and start with a clean slate, hit the reset button and set us on a more sustainable and investable trajectory?

Karim Fawaz (38:37):
I think it does achieve some sort of a shakeout in terms of global supply as you look over the horizon, that does start to appear for the first time. I would say since this US shale revolution really began, the sector starts to look a lot more attractive. Now the problem is, and this is where you could go, either side on this argument is the demand story in the medium to long term is looking more tenuous. The peak demand narrative is getting stronger. So the problem is that interplay between the supply side of the equation looks more constructive than it did coming into this year as you look over the horizon.

Karim Fawaz (39:20):
But the question is, will some of the structural changes on demand accelerate that demand peak and offset a lot of that benefit? I think we'll find out over the next couple of quarters and years as we come out of this, but that's going to be one of the key themes going forward.

Hill Vaden (39:56):
We'll sign off and we'll have you back again, once we go viral, as you guys [crosstalk 00:40:03]-

Breanne Doughtery (40:03):
Thanks to you both, Karim and Reed.

Karim Fawaz (40:05):
Thanks, guys.

Karim Fawaz (40:07):
Bye. Bye guys.

Speaker 1 (40:10):
To read additional insights from our team of experts, visit our blog at www.ihsmarkit.com/energyblog. You can also find our experts on social media by searching for S&P Global Energy on either Twitter or LinkedIn.

Speaker 6 (40:24):
This podcast contains information and insights copyrighted by S&P Global. To learn more about S&P Global Market Energy Solutions visit ihsmarket.com/energy. That's I-H-S-M-A-R-K-I-T dot com forward slash energy.

Breanne Doughtery (02:42):
But teen type pricing and then now, all of a sudden, to be above that $30 dollar, in the $30 to $35 dollar range on WTI. This is a drastic change in a relatively short amount of time. Maybe he can give us a little bit more perspective on what he thinks is actually driving that.

Karim Fawaz (02:58):
Sure. Yeah. As you mentioned, I think the velocity of the price moves we've been seeing is pretty astounding when you think about it. Obviously we were negative on April 20th, 21st, we are now trading in the mid 30s for WTI. We've had a relatively smooth rally over the past four weeks across both brand and WTI prices. So you're starting to move away from that fear of catastrophe mode which we were in, in March and April. Now towards that, I would say, cautious and potentially slightly less cautious optimism about the recovery as you go into the second half of this year.

Karim Fawaz (03:41):
Countries are trying to reopen, movement restrictions are starting to be lifted around the world, and shut-ins are happening in the supply side around the world, so that kind of narrative is forming and prices are getting taken along for the ride. I think the key thing that's been happening over the past month that's been interesting is just how fast this has all happened in a crisis that's, I mean, arguably, but probably quite visibly, one of the deepest demand crises in the history of the oil market.

Hill Vaden (04:16):
You said yesterday, in a note that you released to clients, that I think the top headline on it was, "If it feels too good to be true it probably is."

Karim Fawaz (04:24):
Yeah. What we tried to kind of talk through in the note yesterday was prices rallying in itself from where we are at the end of April is not necessarily out of the ordinary even given the market conditions. The WTI was trading in late April at around $12 to $15 a barrel. Forget the negative price breach, but over the next few first days of the June 2020 contract. So from that level, it made sense as the system as a whole, especially the US oil system started to rebound and we stopped building stocks, crude stocks, at the rate we were building.

Karim Fawaz (05:01):
We were building around 20 to 30 million barrels a week. We're now flat to declining on a weekly basis in crude inventories. So as the physical system starts to rebound, it's not surprising that the forward curve started to flatten and that super contango that you needed to incentivize storage started to fade. The problem is, that accounts for two-thirds of the rally I would say. It's the last third that's starting to get us a bit worried about overheating.

Karim Fawaz (05:28):
The reason is, as you move into that mid $30 a barrel range, the forces that caused that rally, which was the tightening of supply around the world, will start to come under threat as prices start to move higher and closer to normal levels, so to speak.

Hill Vaden (05:47):
And some of the enthusiasm, or the rapid climb back, is any of that just traffic? I mean, I'm looking around Houston right now and see traffic jams, right? And it feels like people are driving again. Is there something? I'm sure there's more to the equation than that?

Karim Fawaz (06:05):
No, I think the demand narrative is quite important. The problem is with demand is very opaque in general. So there's not a lot of hard data in terms of oil demand figures that confirm to what extent global demand is recovering. We're starting to see gasoline demand in the United States recover modestly. But visibly, on a week to week basis, we're seeing it through our work with OPIS, which is a team within S&P Global, that tracks gasoline sales around the US on a weekly basis.

Karim Fawaz (06:35):
So we are seeing that demand pick up. But I think in terms of the global oil market, it's hard to glean. But the narrative is, as most countries around the world are moving from kind of full shutdown, to reopening, driving returns, is that the worst is over on demand. And as you kind of start that climb back, and supply is still on the downward trending trajectory, the market will start to see that improvement. So that's, I think, fueling a lot of that price upside.

Breanne Doughtery (07:03):
But when we talk about supply, am I right in interpreting that there's kind of two stories going on here. There's the physical rebalancing need storyline, which would be that of shut-ins. And I think that's what you're talking about when we start talking about the weakening of drivers and enforcers of this correction that did happen. But then there's also the others, which is a very important structural story, which is the retrenchment in capex spend amongst producers, particularly in North America, and what that means for structural supply declines, not just in 2020, or the immediate term, but actually is a longer term trend. Is that correct?

Karim Fawaz (07:49):
Exactly. I think, currently, that's exactly correct. And what's happened in the market is you have two speeds of response. What the market has faced, in March and April, was the size of the surplus was such, if you go back a couple of months and try to put it in perspective. As we came into this crisis, the scale of the demand dropped and the scale of the oversupply in the market was such that the risk and the fear of the lack of storage capacity in the market, both in terms of vessels at sea and tanks on land, was such that you needed a mechanism to curtail supply around the world faster than capex.

Karim Fawaz (08:27):
That was the incentive for the shut-in pressure that we've seen over the past couple of months. And that's played out, particularly in the US, but also through the cuts implemented by OPEC+, and their partners, but also in Canada and Norway and in countries around the world. That's kind of the immediate supply response. There is a slower response, or relatively slower, I would say, which is through capex and that is going to play out for an extended period of time here over the next few years.

Karim Fawaz (08:56):
Which is, in the US in terms of capex, and Reed will definitely talk more through that. But also in terms of FIDs of, or sanctioning of new projects around the world, that we've seen grind to a halt. So that hangover if you want, so to speak, in terms of global supply is going to play out, is going to continue playing out here as prices rally back up in the short term. The risk is that that first level of supply response, that I was talking about, the reactive supply response, that starts to unwind.

Breanne Doughtery (09:27):
Okay. So we're talking about shut-ins maybe starting to unwind in this low 30 to high 30 type range, but we're not yet talking about changes in the underlying narrative of a reduced capex program moving into 2021. That needs a higher price point. Is that right Reed? Or do think that $35 sounds good for producers?

Reed Olmstead (09:53):
Well, definitely we're seeing the most acute response being in shut-ins. We've seen almost weekly, if not several times a week, operators making shut-in announcements, but the pace of that has really started to dwindle. We track rigs. We've seen rig count relatively flat for the last couple weeks. So the rig counts is due to the suffocation of capex. But then, the shut-ins are just the acute response.

Reed Olmstead (10:25):
And so we're starting to see operators, they're still, obviously, in North America, it's analog, it's not digital, it's not an NOC will produce or not produce it, what is every individual operator going to do? And so it's a very analog continuous decision process. And so we're starting to see some operators say, "Okay, we're getting comfortable with this." We've actually seen shut-ins occur faster than we were expecting. Very responsive.

Reed Olmstead (11:01):
The announcement that that Karim talked about at OPEC+ is having very good constructive pressure on price, or at least a significant production of downward pressure on price. So we are starting to see hope of these shut-ins coming back. They may come back stronger, they may come back weaker. That's one of the problems with shutting-in unconventionals is nobody really knows what happened, because we've never done this. So that's the acute side of it. The chronic side, or the longer term implication is, look, we've got this massive global demand destruction that's going to take a while to heal itself.

Reed Olmstead (11:41):
I think the projections are maybe 18 to 24 months. And so when we had the US growing a half million barrels a day this year, in the first half of them flat for 18 months, I mean, that was on stagnant or very low demand growth globally. And that was our original outlook in January. Now, we have this huge drop in demand. And so, that's where we see the capex coming in longer term, having implications on pushing down supply in that manner.

Hill Vaden (12:08):
So you mentioned the shut-in questions, that you don't really know how quickly these will come back. And I think your team published a report this week looking at how shut-ins don't always come back to the level that one may have expected. Is there perhaps an incentive to un-shut-in your well more sooner than otherwise to avoid any long term decay? Is that in the calculus of some of these management teams?

Reed Olmstead (12:43):
The problem with shut-ins is you have to think about the financial implication. If you really just want to take the most production off the market quickest, you're going to shut-in your newest wells in unconventionals, those the ones that are producing the highest, but those are also the ones most susceptible to coming back at a lower production rate. Our study, and I hate speaking in averages, because there's so many nuances to what goes to what happens. But typically, you stand a much reduced likelihood of destroying productivity or potential productivity if a well is three years or older.

Reed Olmstead (13:25):
But when you think about it, those aren't the wells that are producing the most volumes. You've gone from 1,000 barrels a day, or [inaudible 00:13:35], down to 75 barrels a day on a... that's three years old. So you've got to shut-in a hole. But again, there's a whole distribution in this. What we did see is operators were very pro... in what they did. A lot of operators just said, "We're shutting everything," and regardless of vintage. I think some are probably more deliberate in how they went about it. But again, it's still very much being felt out. Probably a lot of people listen to the SPE call the other day and the theory there was, older wells bulls hold up Because they used higher quality sand.

Reed Olmstead (14:14):
And so when, when the fractures try to close up, the sand won't be deconstructed to the same level that in basin, natural sand. So there are a lot of factors that we just don't know on the restart. But suffice to say, operators were very responsive to price. They'll try to be equally responsive on the upside, I think, at least in bringing back shut-in production. They will not be responsive in capex deployment.

Breanne Doughtery (14:44):
This is a very different scenario, for instance, than what we would have seen just five years ago roughly, in the previous downturn, right? I mean, [crosstalk 00:14:54] people wanting to bring back production from shut-ins, that's one thing. Sorry, go ahead.

Reed Olmstead (14:57):
So the price didn't get as bad. In fact, I think it was just a couple years ago that we're all high fiving each other because price got over 50. And now, we're high fiving each other because price is over 30. So those-

Breanne Doughtery (15:09):
True.

Reed Olmstead (15:09):
... the $20 between 30 And 50 is a lot bigger than the $20 from 80 to 100, so we never got to this point, and the outlook was never as dire as it was back then. I mean, I think right now, as Karim would attest, look, it's not just bad now, the expectation is it's going to be bad and that's the best outcome. There's talk about a second wave of COVID.

Reed Olmstead (15:36):
Nobody is really talking about, "By the fall, we'll have a vaccine." That's the hope, but I think most people are probably seeing more downside risk than upside risk to the price outlook right now. Whereas back in 2015, and '16, everybody was a bit more optimistic.

Breanne Doughtery (15:56):
But I think it's probably safe to say that there's going to be a little bit more hesitancy amongst producers to jump on a price bandwagon this time around.

Reed Olmstead (16:48):
That was all well and good at a 45 to $50 price. Nobody was really stress testing their portfolio 25 or $30. Now, they're not concerned about growth. They're fully focused, one track mind on cash flow. I think if we saw price go to 45, most operators are going to try to capture that to prove their diligence in going cashflow positive, that's what investors want, that's what it's going to take to get their stock price up, and to re attract investors. Even if we saw price come back, I think operators will be very reluctant to throw a whole bunch of money back into the system.

Hill Vaden (17:33):
Throw a whole bunch of money back into the system in terms of capex or-

Reed Olmstead (17:37):
Yes.

Hill Vaden (17:38):
But if you think about the shut-in question and maybe you think about OPEC, where there's traditional cheaters in a year, I'm getting no cash flow from a shut-in well. The best thing for me as an independent operator is to have you shut-in your well while I continue to fill my pipeline. Are there things that you're watching outside of capex-

Reed Olmstead (18:05):
As long as you're covering your variable [inaudible 00:18:08] flow a well to an existing well. What we saw back last month is nobody could cover their variable costs, so they said, "Why am I selling my product at an absolute unquestionable loss?" To turn it back on, they're going to want a little more faith because there is a risk of damaging equipment, damaging the reservoir. Sometimes, there is cost to restart.

Reed Olmstead (18:32):
You may have to replace a pump or deal with cleaning out water. There are lots of things that could be associated with restarting. But in the end, it's a lot cheaper to restart a two year old well than to drill a new well. So the capital necessary to bring back shut-in's is just a small fraction of restarting your drilling program. So it makes sense, as long as you can get that cash flow and you feel confident, turn your wells back on, but be a little bit more judicious and neutral.

Breanne Doughtery (19:08):
It's interesting that you mentioned the hesitancy or the potential challenges that a producer might look at when they talk about restarting a capex program or a growth capex program, I guess we'll say. As a quick transition over onto the gas side, I would have to say as I look at gas price risk in North America over the next 18 months, I keep asking Kareem a bunch of questions about oil. Much to his chagrin, I'm sure. Because at the end of the day, what we're asking on the gas side is we've been telling gas producers, or non associated gas producers specifically, "Look, hold back, hold back for the last X number of years.

Breanne Doughtery (19:52):
We want just a little bit from you this year, a little bit from you that year." Particularly in 2020, the narrative has been hold back everything you can because we're grossly over supplied for this year. But now, the story is also in 4Q, we want you to turn on a dime and then we want you to grow at a really robust rate for the 12 subsequent months because we have this associated gas coming into the system because of what's happening with oil. I mean, is that going to be accomplished within these producers? How do they get incentivized to pursue that growth program so quickly off the back of this retrenchment story that's been forced on them in 2020?

Reed Olmstead (20:34):
Gas Producers are used to being the whipping boys of the industry. No, I think you're exactly right. We are taking a lot of the associated gas out of the system. You alluded to it. We were looking at a declining gas supply already this year. We were going to go from like 94 down to 84 BCF a day just this year because we just don't need the gas.

Reed Olmstead (21:01):
When the expectation was associated gas is going to grow, well gee Mr. producer in the Haynesville and private equity shop running some rigs in the Haynesville... Sorry, the large producer in the in the Marcellus, no, you guys just wait your turn, wait your turn, wait your turn. Well now, you're right, it has just been a complete flip. The price signal will be there and our price signal goes from like 290 up to north of 350 between fourth quarter this year in first quarter next year.

Reed Olmstead (22:20):
Yeah, they will, they will.

Breanne Doughtery (22:27):
Now we're splitting hairs, Hill.

Reed Olmstead (23:12):
But there are environmental pressures not to the pipelines. So if that happens, gee, now we're going to have an even higher gas price because we're going to have to go back to the Barnett, or the Fayetteville, or some other place. So there's a lot of uncertainty I think in the gas markets, not necessarily through into next year, but moving into mid '22 and beyond. Sort of the things that set up that will really push price up or down at that point are going to play out over the next 12 months. It's just so much uncertainty in that.

Hill Vaden (23:50):
So looking at all this, I mean, there continues to be a huge focus on North America, which has been soaking all the capex for upstream. That's an exaggeration, but a lot of capex for upstream over the past however many years led by the Permian. I mean, Kareem, if you're looking at global oil markets as a whole, I mean, where are some other regions that we want to be paying attention to, call it the immediate term? If maybe we have gotten ahead of ourselves and if there is this kind of sleeper shut-in that could hit the market much more quickly than a rig campaign begins?

Karim Fawaz (24:25):
Yeah, I mean, on the international side, if you look beyond the US, I mean obviously, the big shut-ins that we know of, that we've kind of seen and heard of are in Canada, Brazil, Norway. It's sort of spread out around the world. Volumetrically speaking, Canada is fairly significant. It's north of 500,000 barrels a day, but nothing is really material on the same scale as the US shut-ins have been, which is a million and a half, two plus million barrels a day.

Karim Fawaz (24:51):
Ultimately, it depends on how you define, and this is the trickiest part when you look international in the short term, the tricky part is defining the cuts that were committed by countries within that OPEC plus framework and how enforceable those cuts remain as the supply chain around the world starts to get some breathing room. As you start to have spare tankers in the global market, as you have the LCCs available, will Nigeria, will Angola, with some of these West African countries that are really reliant on oil revenues and oil cash flows, remain committed to those cuts that they committed to within the OPEC+ framework, when there is a spare tanker available to come and take that cargo, even at a price of 35, $40 a barrel or $30 a barrel.

Karim Fawaz (25:40):
That, I think, is going to be the biggest test as you get into this third quarter for a lot of these NOCs, and especially countries which are very reliant still on oil revenues. That cash flow is existential for a lot of these political systems and economies. And that incentive to cheat a historical OPEC parlance is very high, but even more so in these types of economic conditions, with the COVID impact on the economy, et cetera. So I think in the short term, a lot of these companies will be trying to kind of squeeze any dollar they can get. That's one of the key risks.

Karim Fawaz (26:14):
On top of that, overheating of the rally, what we were talking about earlier, in the short term is, as you move into this, the summer and demand does recover, I think the opening up of that room in the supply chain and creep up in prices will start to kind of create that incentive for supply to come back to the market even before we have time to work down the inventories, the massive inventories that we've built so far. In terms of medium and longer term capital, that's a much different question. And that's the segment...

Karim Fawaz (26:45):
So obviously, capex has been migrating to the US for the past decade or so, in terms of upstream, overall, as we look at the world. And over the next three to five years, it's very hard to see where that capital is coming from and getting invested in the upstream space. Obviously, this year, in terms of sanctioning of new projects coming into the year, we were expecting something north of two million barrels a day worth of projects, nameplate capacity, upstream projects getting sanctioned outside of the US and the Middle East.

Karim Fawaz (27:18):
Our forecasts now, after the virus, is probably negligible, or up to two, 300,000 barrels a day, so down more than 95%. So you're seeing that stalling of investment around the world and the companies are under severe pressure economically and financially, so that's going to be the first focus as we come out of this over the next few quarters is going to be repairing balance sheets and recovering before focus goes back to growth again around the world. That, in a way, is similar as you were talking about gas.

Karim Fawaz (27:53):
That, in a way, for us is a bit of a constructive setup for oil as you look down kind of over the horizon and towards the back half of 2021 and 2022, it does look a lot better, because we think that this supply destruction that's being brought now, separate from the shut-ins in the short term and the inventories. Assuming that surplus and that overhang in the market gets digested as you move out of this, this demand crisis and on the other side. The supply destruction that's been wrought here is such that it creates significant room in the market, in the medium term, for prices to edge up, especially if the US is less responsive. The threshold at which US producers move back into growth is higher than it was in 2017, as Reed was talking about.

Breanne Doughtery (28:44):
Please tell me if I read between the lines incorrectly on this, but in the near term, the ceiling's a little sticky on price? I mean, it's pretty hard to go above a certain level, but maybe in the medium term, actually, we could have some room for some bowls to run and, and a higher ceiling?

Karim Fawaz (29:05):
No, that's exactly right. So I think you read correctly there. In the short term, the problem structurally is that you have record inventories on the sidelines, floating storage, on shore storage. And you have a massive amount of spare capacity around the world, short term shut-ins, coordinated political shut-ins, economic, logistical shut-ins. So you have an amount of supply on the sidelines, that needs to come back into the market before you can start to see the front end of that curve significantly move higher.

Karim Fawaz (30:07):
Until you clear those two major hurdles, I think it's difficult to see the front end of the curve move into that steep backwardation and higher momentum in terms of the ceiling on prices. But as you clear those hurdles, I think it becomes a lot more... It's easier to rally above that threshold, the $50-plus a barrel range, and that's where we see prices trending towards the back half of 2021 and into 2022.

Hill Vaden (30:35):
When we look at the beginning of the year, I mean, before COVID, I think... I mean, I know Reed, you and I were talking about this being a year with increased bankruptcies in North America and Korean metal that there was still a supply of overhang, even if we hadn't shut down the world for two months. Right? And there was an OPEC price war. COVID made a bad problem worse in terms of, I guess, oil markets. When did those conversations, I guess the bankruptcy conversation never left us, but when does the OPEC price war conversation reenter the discussion?

Karim Fawaz (31:15):
Yeah, I mean, I think everything is put on hold. You had that strategic divergence within OPEC, obviously, OPEC, and its partners, particularly Russia, were stuck in a really untenable management exercise. What started as a tactical six month cut, ended up being a four year effort with repeated cuts, and relapsing remitting surpluses, and constant kind of thinking through how to manage this market. I think coming into this year, they were stuck in that game and that strategic divergence between Russia and Saudi Arabia on what price level is required to both keep the US at bay in terms of in terms of production, and get the prices their economies need, was a very big kind of point of friction between both countries.

Karim Fawaz (32:00):
That faded a bit through this crisis, because of the urgency and because of the focus being first and foremost on short term survival, and then the price environment. But I think, as you come out on the other side of this and towards the latter half of this year, and as you go into 2021, those strategic conversations will have to come back and be addressed. And what price Saudi Arabia wants for oil and how they think about the oil market in the medium term and in the next few years.

Karim Fawaz (32:28):
I think that's going to become a conversation again. But at the moment, the focus is still very much on getting through the next few weeks and months. And shielding that price floor as high as possible, even if it is still well below what their economy and the economies of their kind of Gulf partners and OPEC members require.

Breanne Doughtery (32:50):
I think it's such an interesting time right now, because through all these conversations, what I would venture to say unprecedented in the sense that we can talk about the short term and there's all this risk around the short term on both the demand and supply side and price risk that comes along with that. But as we look to the impacts of this crisis, I mean, they're going to be far reaching. We're talking about potential long term changes in demand behavior. And as we talked about changes in producer behavior, or supply behavior. So needless to say, I'm going to guess we're going to have you both back on this podcast on several occasions.

Karim Fawaz (33:30):
Yeah.

Breanne Doughtery (33:32):
Because we could talk for hours and I think that, obviously, it's been a pivotal time period in the world as a whole, but specifically within energy markets, and within the connection between energy markets and financial markets, I think that this, let's say five to six month period is probably going to go down as one of the biggest transition points. And we really appreciate you guys chiming in on that.

Karim Fawaz (34:00):
Sure.

Reed Olmstead (35:08):
We did a look a few years ago of how many operators were in the Permian and how many operators were there in deep water. And there were over 1,000 Permian operators and seven deep water operators. And so what we saw is, there's just been culling of companies in the US over the last five, six years, as they get acquired, or they just go out of business. And so what we're going to see, it's the companies that can weather the storm, are going to start behaving much more like their competitors, which we saw come in the last couple of years, being the majors.

Reed Olmstead (35:46):
We're seeing the majors make a larger position in the United States unconventional system. And so an investor is going to say, "I could buy a stock that that gives me a good return. Or I could buy a growth stock that gets crushed every time price goes down." The leverage on it is just so much higher. And they continue to vote with their dollars, largely because of what Saudi is selling. I think that what we're going to see is this is a structural change.

Reed Olmstead (36:16):
When we talk to CEOs, it is a structural change to investing, to change the investment thesis, or the investment proposition that these companies give to their buyers, of, "Look, we've stress tested our portfolio at $30. We plan on 50. We stress it at 30. And we give a lot of cash back." And that's what investors want. And so that's why our longer term outlook is very muted compared to where we were even just six months ago.

Karim Fawaz (36:45):
Yeah, I mean, just to take it back in terms of the global oil market. The problem always has been over the past several years, if you think back, I mean, the reason why people looked at this and the shale sector specifically, but oil and gas as a whole as a share of the S&P, has been declining for the past decade at a pretty fast clip. So as you think about it as a segment, as an investable segment, the problem has been, as really the disruption that the US shale has brought on to the sector, has meant that you're always in an untenable situation in terms of supply demand dynamics.

Karim Fawaz (37:20):
And the fundamentals will constantly overwhelm any investment made by these companies, and ultimately, take a toll on financials. What's been happening here, what's interesting is, we've talked to a lot of clients for the past several years. And if I think back to the number one question since 2017, or scenario that clients have tried to run past us, it's always been some variant of why doesn't Saudi Arabia just flood the market for another quarter, force the shale guys to rethink their business model once and for all, and start with a clean slate, hit the reset button and set us on a more sustainable and investable trajectory?

Karim Fawaz (38:37):
I think it does achieve some sort of a shakeout in terms of global supply as you look over the horizon, that does start to appear for the first time. I would say since this US shale revolution really began, the sector starts to look a lot more attractive. Now the problem is, and this is where you could go, either side on this argument is the demand story in the medium to long term is looking more tenuous. The peak demand narrative is getting stronger. So the problem is that interplay between the supply side of the equation looks more constructive than it did coming into this year as you look over the horizon.

Karim Fawaz (39:20):
But the question is, will some of the structural changes on demand accelerate that demand peak and offset a lot of that benefit? I think we'll find out over the next couple of quarters and years as we come out of this, but that's going to be one of the key themes going forward.

Hill Vaden (39:56):
We'll sign off and we'll have you back again, once we go viral, as you guys [crosstalk 00:40:03]-

Breanne Doughtery (40:03):
Thanks to you both, Karim and Reed.

Karim Fawaz (40:05):
Thanks, guys.

Karim Fawaz (40:07):
Bye. Bye guys.

Speaker 1 (40:10):
To read additional insights from our team of experts, visit our blog at www.ihsmarkit.com/energyblog. You can also find our experts on social media by searching for S&P Global Energy on either Twitter or LinkedIn.

Speaker 6 (40:24):
This podcast contains information and insights copyrighted by S&P Global. To learn more about S&P Global Market Energy Solutions visit ihsmarket.com/energy. That's I-H-S-M-A-R-K-I-T dot com forward slash energy.