Oil Money: Too Dumb to Fail


Bankers on the trading floor at CITI make a market in the latest derivatives of derivatives. (Photo by Mike Licht/NotionsCapital.com)

We interrupt the Crash of 2015 for a brief word from some people who are not participating, on the belief that the oil boat — having been hit by two icebergs, dwindling resources and plunging prices — is not sinking, it is merely bobbing in a trough between two lovely crests. We will return to the previously scheduled sinking as soon as these folks discover once again that no matter how much stupidity and cash you pump into a ship with an enormous hole in the hull, you can’t save it.

I have been waiting since mid-April for the next phase of the fracking disaster to kick in, when producers unable to raise new debt or capital in the face of collapsed prices and devalued assets would drop like flies, production in the fracking patch would decline sharply, the junk bond market would crash and burn, possibly taking the regular bond and stock markets with it. Seemed like a slam dunk. Why hasn’t it happened?

The first evidence to come to my attention appeared this morning in The Wall Street Journal — “Easy Access to Money Keeps U.S. Oil Pumping” — and Forbes — “What Is The ‘Smart Money’ Telling Us About Oil?”  Incredibly, the “dumb money” — and that is the term used by the Forbes contributor, Jesse Colombo — is still betting that oil prices are going to rebound soon and everything will be the way it was.

But wait. The way it was, back in the summer of ‘14, when oil was selling for more than  $100 a barrel, was that the frackers were losing their shirts. Oh, they were showing nice operating profits per well, and paying dividends and all, but the horrendous decline rate of production from fracked wells, up to 60-70% in the first year, 90% in three years, meant that every $8 million well had to be replaced in about three years to keep the company going. The expense of doing that was far more than the operating profits, so the actual; cash flow of virtually all the producers was negative from the start.

They sold all the stock they could sell, and issued all the bonds, and borrowed all they could, and then issued junk bonds until that market seized up, until it seemd they had nowhere left to go but down. But we underestimated the incredible dumbness of dumb money.

In the words of the Wall Street Journal (which will never use the words dumb and money in the same phrase), “banks, private-equity firms and institutional investors have continued to pour money into the sector even as oil companies slashed billions of dollars in spending from their budgets and laid off more than 100,000 workers.”

They’re buying stock! In fracking companies! $16.69 billion worth just in the first quarter of 2015! And they’re secondary equities!

I’m sorry. Was I shouting?

What happened with all that debt that went sour at the end of the first quarter, when required assessment of oilfield reserves had to be done at the new lower prices? Reports the WSJ: “Loan officers surveyed by the Federal Reserve in April said they expect an increase in energy companies unable to pay back their loans, and were preparing by restructuring agreements.” Many of those restructured agreements involved new, second-lien loans.”

I know. I’m shouting again.

These enormous quantities of money, sloshing around the world like tsunamis in search of more wealth, blowing up and sweeping away whatever shore they land on, are propping up the zombie oil patch and delaying the inevitable.

Lest you think this is an exaggerated example, not typical of the incredible dumbness of money, consider one more craze sweeping today’s financial world. P2P loans are expanding exponentially since Wall Street geniuses began collateralizing them. What are P2P loans? Private loans to people whose high-interest credit cards are maxed out, allowing them to repay (cough,cough) the debt at lower interest rates and of course to go back to using the credit card. That’s what we did with home re-fi 10 years ago and look how well that worked out.

According to Bloomberg News:

P2P loan volume is poised to hit $77 billion this year, a 15-fold increase from just three years ago. LendingClub, the No. 1 player worldwide, is trading at a market value of about $7 billion even though it lost $33 million last year.

You can’t make this stuff up. And you can’t predict how it’s going to play out because where there is no rationality, well, there is no rationality.

So in a few minutes, weeks or months, we will return you to the Crash of 2015, already in progress.

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6 Responses to Oil Money: Too Dumb to Fail

  1. Philip says:

    No sir, you can’t make this stuff up. I worked on Wall St for over 20 years as a Computer Programmer/Systems Analyst/Project Manager/User Liaison for such firms as E.F. Hutton, Bank of New York, Merill Lynch, First Boston, Smith Barney, Shearson, Lehman, Hutton, Paine Webber and Depository Trust Co. Don’t worry if you’ve never heard of any these companies they are dead and buried. I wasn’t considered cream of the crop for Drexel Burham or Bear Stearns so I never got an offer from them.

    So, I got a front row seat for the kind of behavior that was already in place behind that business model. Profits good, everything else bad. No question regarding how those profits were made or what had to be destroyed in order to make those profits possible. It’s that simple really, and if you don’t believe well we’re all headed to the compost heap anyway so it makes no difference.

    If people really understood and read Edward Bernays (his book “Propaganda”) or could accept that our “education” system (read John Taylor Gatto or Neil Postman) wasn’t leading them anywhere but to the slaughter they might be able to get something of a clue as to what’s going on.

    So, no it doesn’t surprise me that the firms are buying up the stock (which is really worthless) or reorganizing the loans (which will never be collected) or that P2P are happening. Nor did it surprise me that you were surprised that the collapse (which really has happened financially) hasn’t manifested as in the way that would clearly demonstrate that we are sinking in quicksand that’s up to our necks.

    I remember the panic that set in when crash of 87 happened. You cold feel fear emanating from people’s armpits, could see the huge water stain from sweat dripping down their underarms.

    That’s why when I read a piece over at Hipcrime (http://hipcrime.blogspot.com/2015/05/is-peak-oil-behind-economic.html) that puts out that Peak Oil isn’t really having as much of an impact on our current economic disintegration as some think (or at least this is my read) I have to wonder what size boulder would have to fall on people who think like this (KMO included) for them to wake up and smell the coffee.

    Fracking is/was a mess on so many levels, but it’s been one of the pieces that allowed us to continue on this illusion of never ending growth while not realizing we’re really Wild E. Coyote and that we’ve run well past the edge of the cliff with no chance of getting back on solid ground and so there is no where else to go but down, down, down. Only I don’t think it’s going to be so easy for us to recover from being smashed flatter than a pancake.

  2. Craig Moodie says:

    I told you that they would just paper it over.

  3. Tom says:

    HAAAA-HAAAAAAAAAAAAA! This is so delusional, it’s astounding to me that the whole house of cards doesn’t just collapse by the freakin’ weekend!

    Thanks Mr. Lewis for the great read, simple analysis and humorous touch.

  4. Steven Martin says:

    My own mind has replaced the word “growth” with the word “churn” in the financial media. Remember in banking that “loans”” are considered “assets” and they just get swapped around all day long. However, there are indeed real companies out there making real cash profits. Its right there on the cash flow statement. But who reads those?

  5. venuspluto67 says:

    Well, I think the people who really running things (the .1%) recognize that the only way they can put off massive financial collapse and the arrival of John Michael Greer’s “Age Of Impact” is to keep the ponzi going by whatever means are necessary. And I think we all know how very, very creative these folks can get when it comes to doing just that.

  6. The smoke is clearing, the mirrors are cracking, and the duct tape and baling twine that have held things together for far too long are beginning to tear and unravel. But at least we still have psychological denial.