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In my recent outlook on commodities, I said that the Saudis were facing painful times. They are in a hole of their own making with their oil share war.
The country’s budget deficit in 2015 ballooned to $98 billion. That is 15% of the country’s gross domestic product. Bank of America (NYSE: BAC) forecasts that $30 a barrel oil in 2016 will raise the budget deficit this year to a whopping $180 billion.
The oil price has also pressured the Saudi Arabian currency – the riyal – forcing the Saudis to spend well over $100 billion to date defending the peg against the U.S. dollar. Even the Saudis’ stockpile of cash is not infinite. So the kingdom is looking at everything as a possible source of funds.
That brings us to the news that the Saudis are mulling over listing their crown jewel – Saudi Arabian Oil Co., better known as Saudi Aramco. The world’s most valuable oil company, Saudi Aramco produces 1 in every 8 barrels of the world’s oil. In 2014, it produced 3.5 billion barrels of oil and exported 2.5 billion barrels.
That alone shows the Saudis’ desperation. It could have listed Saudi Aramco when oil was well over $100 a barrel – not now when the company’s revenues are believed to be down 35% in 2015.
Which Parts Will Actually Be Listed?
If the Saudis listed the entire company, its worth would likely be a few trillion dollars.
But that is highly unlikely. It would be like listing a country. Saudi Aramco is Saudi Arabia. It is involved in every aspect of Saudi life, from schools and hospitals to soccer stadiums. It is involved in construction and tech too. And of course, oil.
What is likely to occur is that the Saudis will only list a part of the company. And I strongly doubt whether the Saudis will include the true crown jewels – the upstream oil assets – in the listing. Saudi Aramco has 16% of the world’s proven reserves, or 268 billion barrels. That is about 11 times more than Exxon Mobil (NYSE: XOM)!
It is likely that any listing will be only in Saudi Arabia. If the Saudis opted for a listing in New York, London or even Hong Kong, regulators would demand to see detailed information about the company’s oil reserves and production. That is information the Saudis have always kept secret.
Perhaps the Saudis will only float the petrochemicals or refining parts of the business. If they do opt to list all of Saudi Aramco, it is likely they will only sell a piece of the business, say 5% or 10%.
Since it is unlikely that U.S. investors will be able to get a piece of Saudi Aramco, why should they care? Because what is going on in Saudi Arabia directly affects the U.S. stock market – particularly energy stocks and the junk bond market.
Lower for Longer
A major reason for the January stock market swoon has been the oil price collapse. And it was a collapse largely caused by the Saudis’ decision to launch the oil share war to drive out competitors.
The Saudis’ listing of even a part of their crown jewel shows that they are in this “war” for the long term. In other words, oil prices will be lower for longer.
It is highly unlikely the Saudis will switch horses in midstream now and lower their oil production. Not when they know that so many – perhaps a third or more – of the U.S. shale oil producers are on the ropes, heading toward bankruptcy.
There’s a geopolitical angle to this too. The Saudis sure as heck are not going to cut output now and cede market share to their bitter rivals, the Iranians.
So we’ll likely see at least a partial Saudi Aramco IPO. And it will perhaps be a bigger chunk than I expect if the Saudis feel they need more funds to continue the oil share war.
What does this really mean for U.S. investors?
I would avoid all U.S. shale producers until the dust settles. Then we can see who survived. I would also avoid dabbling in junk bond funds. Too many of them have heavy weightings in the energy sector.
If you must play energy, stick with the highest-quality stocks like Exxon Mobil. But even among the oil majors, which will survive, there is the very real risk of dividend cuts.
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