How low is the oil price ? Well, put it this way ..... the Saudis are returning to the bond market.

Thursday 6th August 2015

 How low is the oil price ? Well, put it this way ..... the Saudis are returning to the bond market.

Ref : "Saudi Arabia plans $27bn in bond issues" , The Financial Times Online Aug 5th

Statistics and charts can tell you the bare facts about price movements, like the price of oil for example. Brent crude was trading at $115 per barrel in June 2014, and at the time of writing is worth a little less than $50, a drop of roughly 57%. But if you're after a wider perspective, nothing would illustrate the precipitous fall in the oil price better than the news that Saudi Arabia will return to the debt market.

Plans are in place to issue 5, 7 and 10yr bonds between now and the end of the year to raise $27bn. In fact, Riyadh has already put its toe in the water by issuing a $4bn local bond in July and without any recovery in the price of oil may have to extend its borrowing programme into 2016. To those that assume that the Saudis can just pump wealth from beneath the sand at will, this seems unimaginable.

As ever, some context is required :

There is an undeniable irony in the fact that it was essentially Saudi Arabia's determination to re-establish its market-share that was responsible for driving down the oil price in the first place. Saudi is not only the world's largest producer of oil, but can also get it out of the ground more cheaply than just about anyone else and by out-producing and undercutting their competitors (including the new boys of the US shale industry) they have been at least partially successful in their ambitions. But it has come at a cost, as they surely knew it would though one gets the impression that the extent of fall in the oil price was as unforeseen as it is unwelcome.

Saudi Arabia has a huge public spending programme, with infrastructure projects and public sector wages to the fore. In addition, it has a war in Yemen to pay for. Almost all government revenues come from the energy sector, and although Saudi can produce oil cheaply it would require an estimated price of $105 per barrel to cover its spending. The cause of the deficit is plain to see, and the government has decided to make it up by issuing debt rather than using up reserves.

Talking of reserves, we should keep things in proportion. The Saudi Arabian Monetary Agency has $672bn in foreign reserves, though this is already a fair bit lower than their peak of $737 a year ago. Moreover, it's not as though Saudi hasn't been here before ..... Saudi debt reached 100% of GDP in the 1990's before oil rallies of the 2000's allowed the debt to get paid down. All are agreed that any bonds issued by Saudi would be quickly snapped up. So why is it important ?

Well, for two reasons : Firstly, those with a particular interest in the biggest economy of the region (and given the geopolitical importance of Saudi, that should be all of us) will be concerned that Saudi's determination to maintain public spending levels through borrowing betrays a reluctance to instigate painful but necessary economic reforms, like ending subsidies and getting more workers off the government payroll and into the private sector

And secondly, some analysts are suggesting that the move to issue bonds points to the fact that the Saudis themselves do not expect any meaningful rally in the price of oil anytime soon. That's certainly one way of looking at it.  If it was the case however, one could hardly blame them. With Iran itching to rejoin the party, continued oversupply and lacklustre demand mean that, short-covering rallies aside, many would agree.