Saudi Arabia Declares Oil War On US Fracking, Hits Railroads, Tank-Car Makers, Canada, Russia; Sinks Venezuela + Guess What Happened The Last Time The Price Of Oil Crashed Like This

By Wolf Richter: When OPEC announced on Thanksgiving Day that it would maintain oil production at 30 million barrels per day, chaos broke out in the oil market, and the price of oil around the globe spiraled into a terrific plunge. The unity of OPEC, if there ever was such a thing, was in tatters with Saudi oil minister smiling victoriously, and with a steaming Venezuelan oil minister thinking of the turmoil his country is facing [OPEC Refuses to Cut Production, Oil Plunges off the Chart].

The bloodletting in the oil markets on Thursday led to some wobbly stability on Friday, and for a while it seemed oil had found a bottom, but then the US stock market closed early while crude continued trading, and suddenly all heck re-broke loose, and the US benchmark WTI plunged again and broke the $66-a-barrel mark before coming to a rest at $66.06. After a near 10% dive in two days, WTI is now down 37% since June!
This chart shows the Thanksgiving plunge following OPEC’s decision, the deceptive stability Friday, and the afterhours plunge:

Now more information has emerged, confirming prior “rumors” and “conspiracy theories.”

During the closed-door meetings in Vienna, Saudi oil minister Ali al-Naimi told OPEC members that OPEC had to combat the US fracking boom. If OPEC cut output to raise the price of oil, it would lose market share, he argued. The way to win would be to allow overproduction to depress prices to the point where they would destroy the profitability of North American producers. And they’d have to cut production, rather than OPEC.
With Saudi Arabia’s overwhelming power within OPEC, his argument won against objections from desperate members, such as Venezuela, Iran, and Algeria, which wanted a production cut to push prices back up.
“Naimi spoke about market share rivalry with the United States, and those who wanted a cut understood that there was no option to achieve it because the Saudis want a market share battle,” a source told Reuters to make sure the message got out.
Asked if this was a response to rising US production, OPEC Secretary General Abdullah al-Badri essentially confirmed OPEC had entered the oil war against the American shale revolution: “We answered,” he said. “We keep the same production. There is an answer here.”

The bloodletting is spreading.

While the US fracking boom is the official target, Canada’s tar-sands producers are getting hit the hardest. The process is expensive. Their production is largely land-locked and often has to be transported to distant refiners in Canada and the US by costly oil trains. Yet these high-cost producers are getting the least for their oil: The heavy-oil benchmark Western Canada Select (WCS) traded for $48.40 per barrel on Friday, down over 40% from June, the cheapest oil in the world.
Their shares got knocked down in sync: For example, Suncor Energy dropped 9% on Friday, down 27% since June; and Canadian Natural Resources dropped nearly 10% for the day, down 28% since June.
The US shale oil revolution is bleeding as well. Shares across the board are getting hit, many of them outright eviscerated. If the word “plunge” occurs a lot, it’s because that’s what these stocks did on Friday.

• Goodrich Petroleum plunged 34% on Friday; down 80% from June.
• Sanchez Energy plunged 29.5% on Friday, down 71% from June.
• Clayton Williams Energy plunged 25.6% on Friday, down 61% from May.
• Callon Petroleum plunged 18.6% on Friday, down 60% from June.
• Laredo Petroleum plunged 33.5% on Friday, down 66.5% from June.
• Oasis Petroleum plunged 27.2% on Friday, down 68% from July.
• Stone Energy plunged 24.1% on Friday, down 68% from April.
• Triangle Petroleum plunged 25.6% on Friday, down 62% from June.
• EP Energy plunged 25.3% on Friday, down 54% from June.

The list goes on. Even large oil companies got clobbered:

• Exxon Mobil down 4.2% for the day and 13% from July.
• ConocoPhillips down 6.7% for the day and 24% from July.
• Marathon Oil down 11% for the day and 31% from early September.
• Occidental Petroleum down 7.4% for the day and 24% from June.
• Anadarko Petroleum down 10.5% for the day and 30% since late August.

Then there is the Oil Service sector.

The Market Vectors Oil Services ETF dropped 8.9% for the day and has plummeted 34% from June. The current standout is its 10th-most heavily weighted component, Norway-based SeaDrill which had announced that it would cut its dividend to zero to deal with its mountain of debt, given the current environment. Its shares swooned on Thursday and Friday a total of 28% and are now down 70% from a year ago. The whole sector followed. This is what debt can do when the going gets tough.
Those are among the official targets of OPEC’s scorched-earth oil war. They’ve been hit, and they’re taking on water.

There is collateral damage.

With increasing amounts of oil being carried by oil trains, the railroads, which had been trading near their exuberant 52-week highs in large part due to the lucrative oil-train business, suddenly took a dive on Friday:

• Union Pacific -4.9%
• CSX -3.8%
• Canadian Pacific -8.0%
• Norfolk Southern -4.7%
• Kansas City Southern -5.1%
• Canadian National Railway -4.6%
• Burlington Northern Santa Fe, which is owned by Warren Buffett’s Berkshire Hathaway, isn’t publicly traded. But if the oil-train business gets hit, so will Buffett’s “steal.”

But this pales compared to the carnage in tank-car builders. On Friday, they plunged:

• Greenbrier -15% for the day, -28% from its September high.
• American Railcar Industries -12.9% for the day, -28.3% since August.
• FreightCar America -7.5% for the day, -21% since September.
• Trinity Industries -11.3% for the day, -36% since September.

The oil price move is already cascading through American industry. Bondholders are next. The US fracking boom was built with debt, much of it junk rated. And this pile of debt is now at the confluence of the collapsing price of oil, high costs of production, and sharp decline rates of fracked wells that force drillers to continue drilling just to maintain their revenues. It’s a toxic mix.

And there are victims of friendly fire, so to speak.

Particularly OPEC member Venezuela, dogged by the world’s highest inflation and worst budget deficit, is running out of options. On November 18, President Nicolas Maduro ordered $4 billion in loan proceeds from China to be transferred from an off-budget fund to one counted in the international reserves. The sudden appearance of $4 billion in international reserves pumped up bondholder confidence: the next day in intraday trading, Venezuelan bonds jumped the most in six years.
But it didn’t last long. Within a week, its international reserves dropped by $1.3 billion to $22.2 billion, Bloomberg reported. Venezuela had burned through one third of the Chinese money in one week. Venezuela must have much higher oil prices. Unless a miracles happens, or unless China bails it out altogether – at a steep price – the country is headed for default.
Russia, third-largest oil producer in the world, after Saudi Arabia and the US, also got hit, as did Norway, and their currencies have been brutalized [Ruble Freefall: And the Ugliest Currencies Are?]

But this time it’s different.

This time, OPEC is trying to depress oil prices. In prior years, OPEC tried to push prices as high as possible, but without killing the global economy and demand for oil. The balancing act led to high oil prices that consumers struggled to pay but that allowed the US shale revolution to bloom. If oil had remained at $40 or $50 a barrel, fracking wouldn’t have taken off. OPEC was, ironically, one of the enablers of fracking (yield-desperate investors, driven to near insanity by the Fed’s zero-interest-rate policy, were the other one). And now fracking is threatening to make OPEC irrelevant.
Saudi Arabia, formerly the dominant oil producer in the world, the country whose mere words could shake up markets and manipulate US policies in the Middle East, and the master of an all-powerful OPEC, is reduced to struggling for simple market share, the hard way.

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X art by WB7

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Guess What Happened The Last Time The Price Of Oil Crashed Like This
By Michael Snyder: There has only been one other time in history when the price of oil has crashed by more than 40 dollars in less than 6 months.  The last time this happened was during the second half of 2008, and the beginning of that oil price crash preceded the great financial collapse that happened later that year by several months.  
Well, now it is happening again, but this time the stakes are even higher.  When the price of oil falls dramatically, that is a sign that economic activity is slowing down.  It can also have a tremendously destabilizing affect on financial markets.  As you will read about below, energy companies now account for approximately 20 percent of the junk bond market.  And a junk bond implosion is usually a signal that a major stock market crash is on the way.  So if you are looking for a “canary in the coal mine”, keep your eye on the performance of energy junk bonds.  If they begin to collapse, that is a sign that all hell is about to break loose on Wall Street.
It would be difficult to overstate the importance of the shale oil boom to the U.S. economy.  Thanks to this boom, the United States has become the largest oil producer on the entire planet.
Yes, the U.S. now actually produces more oil than either Saudi Arabia or Russia.  This “revolution” has resulted in the creation of  millions of jobs since the last recession, and it has been one of the key factors that has kept the percentage of Americans that are employed fairly stable.
Unfortunately, the shale oil boom is coming to an abrupt end.  As a recent Vox article discussed, OPEC has essentially declared a price war on U.S. shale oil producers…

For all intents and purposes, OPEC is now engaged in a “price war” with the United States. What that means is that it’s very cheap to pump oil out of places like Saudi Arabia and Kuwait. But it’s more expensive to extract oil from shale formations in places like Texas and North Dakota. So as the price of oil keeps falling, some US producers may become unprofitable and go out of business. The result? Oil prices will stabilize and OPEC maintains its market share.

If the price of oil stays at this level or continues falling, we will see a significant number of U.S. shale oil companies go out of business and large numbers of jobs will be lost.  The Saudis know how to play hardball, and they are absolutely ruthless.  In fact, we have seen this kind of scenario happen before…

Robert McNally, a White House adviser to former President George W. Bush and president of the Rapidan Group energy consultancy, told Reuters that Saudi Arabia “will accept a price decline necessary to sweat whatever supply cuts are needed to balance the market out of the US shale oil sector.” Even legendary oil man T. Boone Pickens believes Saudi Arabia is in a stand-off with US drillers and frackers to “see how the shale boys are going to stand up to a cheaper price.” This has happened once before. By the mid-1980’s, as oil output from Alaska’s North Slope and the North Sea came on line (combined production of around 5-6 million barrels a day), OPEC set off a price war to compete for market share. As a result, the price of oil sank from around $40 to just under $10 a barrel by 1986.

But the energy sector has been one of the only bright spots for the U.S. economy in recent years.  If this sector starts collapsing, it is going to have a dramatic negative impact on our economic outlook.  For example, just consider the following numbers from a recent Business Insider article…

Specifically, if prices get too low, then energy companies won’t be able to cover the cost of production in the US. This spending by energy companies, also known as capital expenditures, is responsible for a lot of jobs.
“The Energy sector accounts for roughly one-third of S&P 500 capex and nearly 25% of combined capex and R&D spending,” Goldman Sachs’ Amanda Sneider writes.

Even more troubling is what this could mean for the financial markets.
As I mentioned above, energy companies now account for close to 20 percent of the entire junk bond market.  As those companies start to fail and those bonds start to go bad, that is going to hit our major banks really hard…

Everyone could suffer if the collapse triggers a wave of defaults through the high-yield debt market, and in turn, hits stocks. The first to fall: the banks that were last hit by the housing crisis.
Why could that happen?
Well, energy companies make up anywhere from 15 to 20 percent of all U.S. junk debt, according to various sources.

It would be hard to overstate the seriousness of what the markets could potentially be facing.
One analyst summed it up to CNBC this way…

“This is the one thing I’ve seen over and over again,” said Larry McDonald, head of U.S strategy at Newedge USA’s macro group. “When high yield underperforms equity, a major credit event occurs. It’s the canary in the coal mine.“

The last time junk bonds collapsed, a major stock market crash followed fairly rapidly.
And those that were hardest hit were the big Wall Street banks…

During the last high-yield collapse, which centered around debt tied to the housing sector, Citigroup lost 63 percent of its value in the following 60 days, Kensho shows. Bank of America was cut in half.

I understand that some of this information is too technical for a lot of people, but the bottom line is this…
Watch junk bonds.  When they start crashing it is a sign that a major stock market collapse is right at the door.
At this point, even the mainstream media is warning about this.  Just consider the following excerpt from a recent CNN article…

That swing away from junk bonds often happens shortly before stock market downturns.
“High yield does provide useful sell signals to equity investors,” Barclays analysts concluded in a recent report.
Barclays combed through the past dozen years of data. The warning signal they found is a 30% or greater increase in the spread between Treasuries and junk bonds before a dip.

If you have been waiting for the next major financial collapse, what you have just read in this article indicates that it is now closer than it has ever been.
Over the coming weeks, keep your eye on the price of oil, keep your eye on the junk bond market and keep your eye on the big banks.
Trouble is brewing, and nobody is quite sure exactly what comes next.

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