An Exclusive Look “Behind-Closed-Doors” from the Dungeon at Windsor Castle

One of the hallmarks of our annual energy meeting at Windsor Castle outside London is the Ambassadors’ Briefing, held in the castle dungeon.

Yes, the dungeon, though it has been converted into a secure location for “behind-closed-door” sessions. The atmosphere is quite unlike any other place I know.

This year, 15 ambassadors and high-commissioners joined us in the chilly air, where they were briefed on the conclusions from the earlier sessions.

The briefing is preceded by an Ambassadors’ Tea, and is followed by a gala dinner in the same room Shakespeare used to perform “The Merry Wives of Windsor“in the early 1600s.

To encourage frank discussion, all aspects of these meetings are held under Chatham House Rules, which facilitates open conversations in politically charged situations.

The rules dictate that the conclusions and themes of what was discussed can be made public, as long as the opinions aren’t attributed to named individuals.

That allows for some very interesting exchanges.

This year was certainly no exception…

Where the Energy Market Goes From Here

After gathering for tea, the ambassadors were briefed on how the high-powered participants viewed the sector and its future path. As always, it was followed by a very energetic exchange of views.

Several fundamental conclusions emerged, each one offering a signal of where the energy market goes from here.

Sort of.

That’s because the first item involves something I have rarely seen in over 40 years in this business. Among the group, there was no consensus on where oil prices are headed.

That was even the case among the diplomats from big producing countries in the Middle East. And aside from Iran (never a participant at Windsor), all the major OPEC members from the Gulf region were represented.

Even so, there is little doubt that the OPEC producers who can afford it will toe the line on maintaining current production levels. For OPEC this has clearly become an effort to defend their market share.

As we have discussed previously, OPEC’s main targets are U.S. unconventional (shale and tight) oil production on the one hand, and Russia on the other.

Of course, Moscow has already begun to adjust its production and export levels after getting hit by the double whammy of sliding oil prices and a collapsing ruble. The main battle is being waged over who gets to export oil to the most prized market of them all: Asia.

The reason why is simple. All indicators now point toward the bulk of global demand moving to Asia through 2035.

But for Saudi Arabia in particular, Russia provides a unique market threat. Its ESPO pipeline from Siberia to both China and the Pacific Coast threatens the Saudis’ Asian market share by offering the prospect of better quality oil at a lower price.

Since the Russian and other Eastern European Ambassadors were part of the Windsor session, there was some lively sidebar conversations among the diplomatic corps during cocktails.

However, it was the impact of U.S. shale production and the possible trigger prices that would cause a major drawback in future production that provided the real interest. In fact, it’s safe to say that this subject was the single biggest point of interest to the ambassadors from OPEC countries meeting in the dungeon.

However, it’s also safe to say there was no real consensus on that score either.

The Biggest Hurdles in the Years Ahead

By comparison, the next two conclusions were virtually unanimous and involved the subject matter of my own presentations.

As I discussed last week, most American producers have been “cost-negative” for some time now. That simply means they have been spending more money to operate than they receive in straight wellhead revenues.

Yet, as ominous as that may sound, being “cost-negative” is usually not much of a problem… at least until recently.

The truth is most projects are run by rolling over their debt. They typically use the proceeds from sales to buttress investor returns, improve their share value, and provide for contingency funds. As long as oil trades in “normal” ranges, the cost of the debt is manageable and the process runs rather smoothly.

Unfortunately, these are not “normal” times.

High-risk debt, the kind that has largely funded the U.S. shale revolution, has reached unsupportable cost levels. This is putting additional pressure on the very survivability of smaller companies and providing fuel for the next round of mergers and acquisitions.

The default rates among these issues will be accelerating, bringing some market uncertainty along with it.

Another point of agreement involved the price tag for the energy infrastructure that’s going to be needed to meet demand through 2035. Everyone agreed that the cost is much higher than initially projected. This matter is so important that the ambassadors have given their support for additional meetings to be held in London and Dubai to deal with this growing crisis.

This involves much more than simply meeting the projections of current demand. It also involves working to provide power to billions of people around the globe who don’t have access to reliable sources of energy. At this point, the brewing infrastructure crisis has become as much of a security consideration as a humanitarian one.

Finally, there was a new concern that everyone agreed has become quite dangerous: The growing threat of cyber-attack.

For instance, not long ago, Saudi Aramco was hit with a debilitating computer virus. It erased data from thousands of computers and put the world’s largest oil producer at risk, along with its reservoirs, pumping network, and control systems.

Cyber warfare of this type has long been the fodder for fiction. But now it’s no longer hypothetical. In fact, this may be the next wave of terrorism, and it needs considerable attention both inside and outside the industry.

Of course, there were a number of other themes addressed in the broader three days of the meetings. Some of them are once again providing early indications of profitable new moves for investors. I’ll be discussing all of them in future issues.

We’ve earned a nice profit from each of the last six Windsor meetings. Number seven promises to be more of the same.

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