The World's Top LNG Producer Is In Trouble

Global LNG markets are struggling with a glut of unprecedented levels...

International expansion in Australia, Qatar, Mozambique and Egypt, combined with a continuously strong US shale gas export drive, is pushing down prices further. Analysts have warned before that a possible LNG glut could end in tears, but nobody was expecting that the market would also be hit by a demand side shock such as China’s coronavirus. The last couple of weeks, major LNG export cargoes to China have been diverted to other clients or are still looking for a destination in an already woefully oversupplied market.

Major LNG producers such as Qatar or Egypt are feeling the pain already. During Egypt’s EGYPS2020, a major oil and gas conference, participants showed concern about the imminent future of the East Med gas hub, as new LNG export contracts still have not been signed and asking prices are unlikely to be met. 

Today’s announcement that Qatar has delayed its choice of Western partners for the world’s largest liquefied natural gas (LNG) project by several months isn’t going unnoticed. Without direct statements by Qatar Petroleum, sources have stated that the delay decision has been made based on current market fundamentals and the still unclear impact of the Corona virus. Qatar has been fighting an uphill battle as the market has been glutted by US shale gas exports and a drop in Chinese demand. 

International interest for the Qatar LNG expansion has been large, and among those interested were industry giants such as Shell and ExxonMobil . No list of interested parties has been issued by QP, but around six Western companies are believed to have shown interest. The market was expecting the announcement of its partners by QP in Q1 2020, but this will be delayed until later this year. Rationally the decision to delay is needed, as a 60% LNG production expansion by QP to reach a volume of 126 million tons by 2027 will be a real risk. 

At the same time, the coronavirus has put the total global market on edge. Demand for oil and gas is feared to be hit very hard, even when current demand figures of China and others are way above what some analysts have been expecting the last weeks. Lower prices have enticed Chinese fill up storage tanks. Still, if Chinese authorities fail to contain the virus, Asian economies could come to a partial standstill, which would gravely impact demand for transportation fuels and natural gas.

Not only traditional LNG exporters, such as Qatar, or East Med producers like Egypt or Algeria, are being hit by the current glut. US shale gas exporters are now facing a major crisis too. Dreams about entering global strong markets with high price settings however have been destroyed, as due to an already existing gas glut, prices have been low already. US gas exports are now only contributing to the glut, pushing prices even further down. Booming U.S. exports combined with lower Asian demand is a major recipe for disaster, effecting most IOCs, but especially Shell, Total and ENI, as all have been concentrating their own investment and expansion strategies in natural gas. Some US producers, such as Chesapeake Energy are already fighting bankruptcy, and IOCs have been hit by a slump in profits.

For Arab producers, especially Qatar, Algeria or Egypt, the future is uncertain. New gas discoveries will need to be monetized to support economic growth and diversification plans. For Qatar current expansion plans are needed, not only for new exports but also to keep the international investors and operators interested in the success story of Qatari LNG. Algeria at the same time is looking at other routes to get additional cash to prop up its fledgling economy the coming years. Egypt’s Energy Hub strategy, in cooperation with Cyprus and Israel, is a matter of life or death. International cooperation and investment strategies are needed to the regional economy going. Without markets or clients, however, all will be put on ice, as no investor or IOC will be willing to spent another $10 billion on a possible new 8 million tons LNG train. In Qatar’s case, the planned expansion is slated to cost around $60 billion.

All eyes are currently on China, as the Asian giant has accounted for 40% of the global growth in LNG demand since 2015. Strategies were decided on demand projections for China to exceed 82 million tons per year by 2023. The same was expected, at lower volumes, for India and possibly other areas in Asia and even Europe. The current slump and the coronavirus effect has put all in doubt. A main concern will be that the LNG glut spirals out of control, pushing major operators over the edge too.

A Middle East Financial Crisis Is In The Making

A Dubai-based operator of ports and terminals around the world is returning to full state ownership with a proposed transaction and a subsequent delisting from Nasdaq Dubai.

This could be one of the latest signs that the oil-rich countries in the Middle East are still struggling to shore up budgets and finances in the aftermath of the 2014 oil price crash.Under the proposed deal, global ports operator DP World will be delisted from Nasdaq Dubai after Port & Free Zone World (PFZW), a subsidiary of state-controlled Dubai World, buys nearly 20 percent of DP World’s shares it does not already own. DP World will become indirectly fully owned by the government of Dubai and will help the emirate’s investment vehicle Dubai World to repay some borrowings to its lenders.

“In the context of the planned delisting of DP World, a payment of US$5.15 billion is required from PFZW to Dubai World to assist Dubai World in discharging its outstanding obligations to its commercial bank lenders, so that DP World can implement its strategy without any restrictions from Dubai World's creditors,” DP World said on Monday.

DP World’s Debt Will Grow in the Short Term

While the company wants to free itself from the shackles of demanding public markets, it will take on a lot of debt in the transaction in the short term, which prompted rating agencies Moody’s and Fitch Ratings to place DP World’s ratings under review for possible downgrades.

“The transaction will weaken the overall credit profile of DP World”, said Dion Bate, a Moody’s Vice President - Senior Analyst and local market analyst for DP World.

As per Fitch, DP World is the world’s fifth-largest container port operator by gross throughput, operating directly or via joint ventures, a portfolio of over 150 operations in more than 45 countries.

Deal Comes Amid Slower Economic Growth in Dubai

The planned delisting of DP World comes at a time when Dubai’s economic growth has slowed down since the 2014 oil price crash.

Source & credit: FT

Dubai’s economy grew by 1.9 percent in 2018, down from the 3.1 percent growth in 2017.

“The slowdown could be due to a combination of external factors such as the trade dispute between China and the US, economic instability among neighbouring countries and domestic issues such as the imposition of VAT across the UAE,” the Dubai government said in its Dubai Economic Report 2019.

Despite a recovery in oil prices in 2018, Dubai’s economic growth has failed to accelerate. In early 2019, businesses across Dubai were not optimistic about a major rebound in economic growth, entrepreneurs told FT’s Simeon Kerr.

Dubai’s economy is not directly dependent on oil, unlike the economy of Abu Dhabi, the other most famous and important emirate in the seven-emirate-strong United Arab Emirates (UAE).  

Dubai has for years relied on luxury real estate, tourism, logistics, and financial services for revenues, rather than on oil, which, truth be told, is not abundant in Dubai as is in and offshore Abu Dhabi.

Dubai Is Not as Insulated from Oil Prices As It Seems

However, as a financial, logistics, and tourism hotspot and hub in the region, Dubai’s economy suffers indirectly when petrodollars in the Middle East are fewer, and when the Persian Gulf governments start imposing taxes, often dampening consumer spending, in an effort to patch up coffers depleted after the oil price crash. The frequent geopolitical flare-ups in the region also weigh on investor and consumer sentiment, and add to global trends that constrain Dubai’s economic growth despite the fact that direct oil income is not the emirate’s main source of revenue.

During the 2008-2009 global financial crisis, it was oil-rich Abu Dhabi that came to the rescue of the state investment firm Dubai World to help it pay debt maturities. This kind of government-to-government bailout highlighted the fact that a diversified services-oriented economy like Dubai needed the petrodollars of the oil-rich Abu Dhabi to prevent debt defaults of some of its state-controlled companies during the financial crisis.  

Middle East Coffers Need Much More Non-Oil Revenues

But if the UAE and its neighbors in the Gulf were to meet a world of peak oil demand unscathed, they would need much deeper and urgent reforms in their economies, sources of revenues, and the way they are spending in order to preserve their net financial wealth over the next two decades, the International Monetary Fund (IMF) said in a recent report.

At the current pace of reforms, income, and spending, the six oil producers of the Gulf Cooperation Council (GCC)—Bahrain, Kuwait, Oman, Qatar, Saudi Arabia, and the UAE—will see their current combined US$2-trillion wealth wiped out by 2034, if they do not significantly accelerate fiscal reforms and raise their non-oil revenues and non-oil share of their respective economies, the IMF warned earlier this month.  

Dubai may be a shining example of a diversified economy in the heart of the oil-rich Middle East, but when neighboring oil-dependent economies suffer, Dubai’s growth also slows down. The region is and will continue to be dependent on oil, and when oil prices falter, the oil-addicted Middle East will continue to struggle to patch up government budgets.

Which Supply Chains Are Most At Risk: The Answer In One Chart

Now that Apple has broken the seal and made it abundantly clear that China's economic collapse which could push its Q1 GDP negative according to Goldman as the second largest world economy grinds to a halt...

... will have an adverse impact on countless supply-chains, which in today's "just in time" delivery environment, are absolutely critical for keeping the global economy running smoothly (for a quick reminder of what happens when JIT supply chains stop functioning read our article from 2012 ""Trade-Off": A Study In Global Systemic Collapse"), attention on Wall Street has turned to which other US sectors stand to be adversely impacted should the coronavirus pandemic not be contained on short notice and China's economy crisis transforms into a supply shock.

Conveniently, Goldman Sachs just did this analysis.In a report looking at the impact of Chinese factory shutdowns on the US consumer, Goldman's Spencer Hill first looks at historical precedent and finds that a somewhat similar supply shock emerged in the winter 2014-15—a four-month labor dispute affecting West Coast ports— which appeared to meaningfully affect retail spending on consumer goods in the first quarter of 2015 (though snowy weather was likely a factor as well). This is shown in the chart below.

Indeed, the March 2015 Beige Book noted that consumer spending in the San Francisco Fed district would have been stronger "if not for delays receiving merchandise caused by labor disputes at West Coast ports."

Extrapolating this historical pattern, Goldman notes that "long shipping times to the US (generally 1 month or more by sea) imply the supply-chain effects of Chinese production shortfalls may not fully materialize until future quarters—at which point above-trend Chinese production or import substitution from other counties could offset some of the impact."

However, analyzing granular international trade data from the Census Bureau, Goldman finds that nearly a third of Chinese products arrive by air (by value, including over 75% of telecom hardware), with these goods representing 3.6% of US retail sales and just under 1% of personal consumption expenditures. The composition of these products (and their wholesale value) are shown in the left panel of the chart below, and represent the sector most likely to be impacted as China remains paralyzed. Unsurprisingly, airfreight imports are skewed towards high-value, light-weight products such as smartphones, laptops, and consumer electronics, representing a perfect storm for a company such as Apple which is reliant on all three. Additionally, a significant share of apparel and footwear (10%) also arrives from China by plane.

To summarize, here are the sectors more at risk from a continued crunch across Chinese factories:

Illustratively, Goldman notes that if air freight from Mainland China falls by 50% in February and returns to roughly normal in March, forgone sales could reduce monthly retail control by as much as 1.8%. Assuming only half of these spending dollars are used to purchase other goods and services, February retail spending would be depressed by 0.9%, lowering Q1 consumption growth by 0.3% (qoq ar).

The good news, until last night at least, is that virtually no companies had disclosed an immediate adverse impact emerging due to Chinese supply chains, sparking some hopes that most if not all had found alternative supply chain substitutes to offset the Chinese crisis. However, with Apple's guidance cut, it now appears that US companies had merely hoped to delay as long as possible the guidance cuts. As a result we now expect a waterfall of negative earnings preannouncements from most companies that have even a modest exposure to Chinese output, which also means that Q1 earnings are looking increasingly gloomy after the modest EPS rebound in Q4, which as we detailed previously was entirely on the back of the "Big 5" FAAMG tech megacaps.

The Collapse Of This Historic Correlation Suggests A Major Crisis Is Imminent

A lot of digital ink has been spilled in recent days over the perplexing reversal of the Yen, which for years was seen by the market as a "flight to safety" trade (as unexpected crisis events would prompt capital repatriation into Japan or so the traditional explanation went), only to suffer a major selloff in the past week as it suddenly started trading not as a funding currency for risk-on FX pairs, but as a risk asset itself.

To us, the reversal is far less perplexing than some smart people make it out to be: with Japan now effectively in a recession following the catastrophic Q4 GDP print which crashed 6.3% annualized, validated by today's just as terrible PMI report...

... and with Japan now set to suffer a major hit due to the coronavirus epidemic spreading like wildfire across the region, it is only a matter of time before the BOJ follows the ECB and Fed in reversing what has been years of QE tapering, and either cuts rates further into negative territory or expands its QQE (with yield control), and starts buying equities (although with the central bank already owning more than 80% of all ETFs, one wonders just what risk assets are left for the central bank to buy). Needless to say, both of these would have an adverse impact on the yen, and potentially lead to destabilization in the Japanese bond market which for years has defied doom-sayers, but it will only take one crack in the BOJ's confidence for Japan's entire house of cards to fall apart. That said, we are not there quite yet.

Furthermore, after the bizarre move in the prior two days, overnight the JPY appears to regain some normalcy, when it traded as it should (i.e., it was once again a risk-off proxy), with the USDJPY sliding during the two major "risk-off" events overnight.

So perhaps the freak move earlier this week was just that: a one off?

But what if it wasn't, and what if we have indeed entered a new risk/correlation phase for the Japanese yen?

If that is indeed the case, we may be on the verge of a major market crisis as Bloomberg FX strategist, Vassilis Karamanis writes this morning, noting that "the yen’s haven status is taking a hit and it could be the prelude to heightened market turmoil."

As Karamanis writes, echoing what we said above, "historically, the currency performs well in times of risk-off sentiment as global investors seek refuge and those from Japan repatriate funds." But as discussed over the past 48 hours, that rule broke down amid the latest wave of market turbulence fueled by the coronavirus outbreak - given that the health scare could have an immediate impact on Japan’s economy, "fueling the risk of a recession", something we first pointed out on Sunday.

But while all that is obvious, the biggest implication is what this means for markets which tend to trade on well-established correlations, with potentially dire consequences any time a historic correlation breaks.

That's exactly what appears to be happening now, because whereas the yen is usually inversely correlated to the Australian dollar as the latter is a risk-sensitive currency, as of now, the 200-day correlation between the two currencies is near zero according to Karamanis.

This is notable, because as the Greek FX strategist explains, referring to the chart below, "whenever this correlation breaks down, it is down to tail risks materializing such as the global financial crisis and the euro-area debt turmoil."

It also tends to spark an immediate central bank "crisis" response: "The last time the correlation turned positive, the Bank of Japan surprised markets by adopting negative interest rates."

Will this time be different, or will the breakdown of this historic correlation be the harbinger to another global crisis (arguably the result of the coronavirus pandemic) and another major emergency response by central banks? One look at the relentless explosion in the price of gold suggesting "someone knows something" about the imminent hammering of the CTRL+P combination, and the answer is a resounding yes...

Institutions Eye Bitcoin As Hedge Against Global Economic Volatility

The world has arguably been teetering on the brink of a recession for months now. But recent events could be pushing the global economy even closer to the precipice. The coronavirus outbreak has choked China’s output, leading to predictions that it will trigger a global slowdown. Europe is facing its own challenges amid ongoing Brexit uncertainty, economic contraction in Germany, and the continuing strikes in France.

So, it’s unsurprising that investor attention is turning to the asset classes that do not correlate with the stock markets. The price of gold saw an uptick in the first week of February, as did the price of Bitcoin, which rose above $10,000 for the first time this year.

image courtesy of CoinTelegraph

Although Bitcoin’s price hike could be due to a whole variety of factors, one possible cause is the increasing use of digital currencies as a hedging instrument. Anthony Pompliano certainly thinks so, having told Cointelegraph recently that he believes there is increasing evidence to support this view.

Pompliano is right in that diversifying an investment portfolio is one of the most basic hedging techniques. It means an investor reduces their risk exposure should any one asset decrease in value. In this case, holding Bitcoin as an asset uncorrelated to the stock market could offset against losses in a share portfolio.

More sophisticated hedging tactics involve taking multiple positions against the same asset using instruments such as options. Let’s say an investor buys 1 BTC for $10,000. The same investor could then purchase options with a strike price of $9,000 for a premium of $200 each. In doing so, they’re hedging against losses above 10% for a fee of only 2%.

Really, Bitcoin as a tool against volatility?

At first glance, the argument that traditional investors would turn to Bitcoin to hedge against volatility in the stock markets appears to be an odd one. It’s fair to say that Bitcoin’s volatility has dampened over recent years compared to what was observed before. But compare and contrast Bitcoin’s single-day drops with those on the stock market. During the last recession, the stock market underwent several single-day drops of around 5% to 7% between 2008 and 2011, but even in 2019, Bitcoin saw price drops nearly twice as steep in a matter of hours.

Furthermore, the price of cryptocurrencies is vulnerable to market forces that are less predictable than the traditional markets. For example, the most recent price pump from the start of February could be pinned down to nothing more than whales placing spoof orders, the kind of event that no amount of technical analysis could predict.

On the other hand, an increasingly diverse range of crypto derivatives provides ample opportunities to hedge on the price of BTC and other digital assets. When the Chicago Mercantile Exchange launched its first regulated options product in January, which became an immediate hit, illustrating that there is a clear appetite among institutions for new types of hedging instruments.

The crypto-derivatives trend isn’t just limited to institutions either. The retail markets for cryptocurrency derivatives have been booming. Last year, crypto exchange Binance opened up its derivatives markets, and others such as OKEx expanded their offerings. Furthermore, BitMEX posted a record trading day in June as the price of BTC hit its 2019 high, further reinforcing the argument that traders are eager for more ways to hedge.

Overall, despite the volatility inherent in cryptocurrencies, the arguments for it being used as a hedging instrument appear to stack up. The Financial Times even cites crypto as one factor threatening the gold markets.

However, not everyone agrees that using crypto as a hedging tool is a good idea, given its unpredictable behavior. Speaking to Cointelegraph, Alon Rajic, managing director of Money Transfer Comparison, said he does not believe crypto should be used to hedge risks:

“There hasn’t been enough time to test Bitcoin in different scenarios. Before 2017, most people haven’t even heard about it. So far, we’ve seen it rise and fall in times of succession and growth for the global economy, but have yet to see how it behaves in recession.”

Hedging opportunities in DeFi and beyond

The fast-growing DeFi and broader retail crypto finance sector now offers many hedging opportunities. At the most basic level, Ethereum users can hedge against price drops by locking their ETH into one of Maker’s collateralized debt positions to generate DAI. However, lending out the DAI on one of the many platforms that are now available also generates interest of up to 10%, further protecting against losses and offering the opportunity for passive income.

There’s a kind of poetic irony involved in the mechanisms behind using DeFi to hedge in this way. The interest levels on apps like Compound or Aave are far higher than one could typically earn on a traditional bank account. However, the reason for that — and the fact that users can leverage these tools to hedge against high volatility — is precisely because the underlying cryptocurrencies are themselves volatile. Andre Cronje, the chief architect at DeFi yield aggregator service Iearn.finance, provided Cointelegraph with some pragmatic advice for those looking for DeFi hedging:

“Focus on stable coin positions that aren’t directly correlated to the volatility of the market, but simply compound upside thanks to the volatility of crypto assets. As long as ETH and BTC are volatile, people keep borrowing stable coins. Pooled liquidity is the best option [for hedging], 50/50 ETH/stablecoin.”

Of course, DeFi comes with other risks. The protocols are entirely software-driven, and although there hasn’t yet been any major incident to date aside from the bZx hacks that are yet to be fully explained, critics have pointed out potential vulnerabilities where single entities hold admin keys to decentralized finance applications. This perhaps explains why centralized counterparts to DeFi DApps are also currently doing so well.

Cred is one example of a platform that’s currently undergoing rapid growth, spurred on by the current bull market and a partnership with the Litecoin Foundation. Dan Schatt, founder and CEO, shared with Cointelegraph:

“It’s clear to us that customers have a tremendous appetite in passive earning on their crypto. We expect over the next two years, most custodial exchanges and wallets will offer passive earning opportunities, similar to the way banks operate today.”

S. Daniel Leon, founder and chief operating officer of Celsius Network, believes in a similar notion, and shared some numbers with Cointelegraph:

“Since the last bull run started, we have seen a dramatic increase in stablecoin loans followed by more deposits of different cryptos — a strong indication that our borrowers are using our product as a means of diversification and hedging. This trend has increased since the start of 2020, with a rise of 41.9% in new depositors. Once users join there is very high retention, and on average depositors add to their existing balance 1.5x a month.”

Hedging exposure with DeFi margin and derivatives

Although lending is by far the most popular form of hedging in the retail markets and DeFi segment, there are plenty of other innovative ways to hedge. Decentralized exchange dYdX enables hedging through short-selling and options trading of Ethereum-based tokens. While the derivatives platform Synthetix allows users to stake native SNX tokens to trade a variety of synthetic assets, called Synths, that track the value of their real-world equivalents. There are also inverse Synths, so users can hedge their exposure to any given asset.

Insurance is perhaps the oldest form of hedging and is also now becoming more available in the DeFi sector. Nexus Mutual is a decentralized fund where users pool their ETH to provide risk insurance. For example, one type of cover protects against financial loss caused by a malicious actor misusing a smart contract. Although the current pool wouldn’t quite cover the full losses incurred by the 2016 DAO hack, for example, the underlying principle seems solid.

The increasing prevalence of hedging is yet another indicator that the cryptocurrency markets are maturing. Within DeFi and retail crypto finance, the introduction of hedging tools is a signal of recognition that the segment needs some of the same tools used by the traditional financial market if it’s to sustain itself in the longer term. However, the adoption of crypto as a means of hedging against the risk of a recession is perhaps one of the clearest signs yet that Bitcoin is now gaining a firm foothold in the financial sector