Monday, December 01, 2008

Lack of access to credit part of falling gas prices...

...but the effect is temporary. That same lack of credit (and outrageous interest rates for bonds that ARE granted) will soon start driving prices back up.

Impact of Credit Crisis on the Energy Industry - Where Are We Now?
Posted by Gail the Actuary on December 1, 2008 - 8:56am
Topic: Economics/Finance

I recently looked through news articles to see which energy sectors were being affected by the credit crisis. I was amazed at how widespread and how devastating the impact is.

There are really two closely related problems. One is reduced access to credit, making new borrowing difficult for nearly every business that requires debt. Prices for all commodities have been dropping as well. At least part of the reason for this price decline is the lack of availability of credit—many of the less credit-worth buyers drop out of the market. This leaves fewer buyers and almost the same number of sellers, so the price drops...

...The long-term implications of declines in energy production are very serious. Research shows that standards of living are closely tied to energy consumption. With less energy available, standards of living are likely to decline...

...Can the credit squeeze be expected to have an impact on capital expenditure going forward? Yes, for two reasons. First, without outside sources of credit, companies are under pressure to keep capital expenditures within the funds that are generated by cash flow. Second, since the credit squeeze keeps the price of oil and natural gas low, there is no point in extracting oil and gas if the market price is too low to provide a reasonable return on investment. Because of this second limitation, the projects that are eliminated are the projects that require a higher oil or natural gas price to be profitable.

In the case of oil, the projects that become non-economic are the newer fields that are more expensive to extract, such as the Canadian oil sands, Petrobas’ new deep offshore Brazilian oil, oil in the Bakken formation in the US, and oil near the Arctic Circle. In the case of natural gas, the more expensive fields are various types of unconventional gas production, such as Barnett Shale in Texas...

...I wrote this post about three weeks ago, and I don't think things have gotten much better since then. According to Merrill Lynch, the average junk bond yield is now greater than 20%. A recent Wall Street Journal article (behind pay wall) says, "The junk bond market has closed the door." The article indicates that in November, no new junk bonds were issued. It also indicates that about half of US corporations have below-investment-grade credit, and thus are being locked out of the market. It seems likely that quite a number of these companies are in the energy field...




Forewarned is forearmed, so they say. Use your knowledge wisely.

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