Goldman Sachs contradicts Trump: $50 oil is bad for the US, commodity chief warns

Key Points
  • $50 oil is bad for the U.S. because it hurts American drillers and threatens to create problems in the credit market, Goldman Sachs' Jeff Currie warns.
  • President Donald Trump has been cheering oil's plunge into a bear market and urging Saudi Arabia to drive the cost of crude even lower.
  • Currie thinks Saudi Arabia and Russia will prevail in convincing Trump that price-boosting production cuts are necessary at this week's G-20 meeting.
Goldman's commodities chief on oil's price plunge
Goldman's commodities chief on oil's price plunge

The rapid plunge in oil prices to $50 a barrel is bad for the United States and threatens to create problems in the credit market, warns Jeff Currie, head of commodities research at Goldman Sachs.

Currie's opinion is at odds with the view from the White House, where President Donald Trump has been cheering the recent oil market sell-off and urging Saudi Arabia to drive prices even lower. The president, eager to see gasoline prices fall, is publicly pressuring OPEC to reject price-boosting output cuts when the group meets with Russia and other producers next week.

@realDonaldTrump: Hopefully, Saudi Arabia and OPEC will not be cutting oil production. Oil prices should be much lower based on supply!

@realDonaldTrump: Oil prices getting lower. Great! Like a big Tax Cut for America and the World. Enjoy! $54, was just $82. Thank you to Saudi Arabia, but let's go lower!

Saudi Arabia convinced about two dozen producers to increase output in June ahead of U.S. sanctions on Iran. However, Trump did not apply those sanctions as harshly as expected, and now OPEC and its allies are strongly signaling they will once again throttle back output following a collapse in oil prices.

Currie thinks Saudi Arabia and Russia have an opportunity to convince Trump that the production cuts are necessary at this week's G-20 meeting in Argentina.

"We think a production cut is in the interest of all three parties," Currie told CNBC's "Squawk on the Street" on Monday. "Oil prices at $50 a barrel dig into the U.S. industry's cost structure. It's not good for the U.S. either at these prices."

U.S. West Texas Intermediate crude prices plunged to a more than one-year low at $50.10 on Monday, down 35 percent since the start of October. The price that's best for all parties is the $65 to $70 range, according to Currie.

"When you're in that level it's not too high and damaging the consumer, but at the same time, it creates a stable environment for the industry," he said.

Currie puts the "all-in cost" of producing oil from American shale fields — including return on capital — at roughly $50 a barrel.

To be sure, that cost varies from region to region, and even from field to field within a region. But analysts are growing concerned about the fallout of $50 oil in U.S. shale fields, where so-called "frackers" rely on an expensive process called hydraulic fracturing to free oil and gas from rock formations.

"What I think a lot of analysts are worried about ... is if the Saudis continue to try to placate Trump, they are going to be oversupplying this market," Helima Croft, global head of commodity strategy at RBC Capital Markets, told CNBC last week.

"You have a situation where if President Trump really wants prices to continue to decline further, that is going to really hurt the U.S. shale industry."

On Sunday, brokerage and investment firm Stifel slashed its 2019 price forecast for U.S. crude by 27 percent to $53.73. If that forecast bears out, Stifel says the 39 oil and gas companies it covers will have to find a way to fill a $8.2 billion cash flow deficit next year. Prior to its revised forecast, Stifel saw the companies generating $16.1 billion in positive free cash flow.

"If OPEC decides not to cut production and crude oil prices hover at or below current levels, [exploration and production] companies will likely need to lower activity levels to avoid a meaningful cash flow shortfall in 2019," Stifel analysts said.

Producers will also get hurt from the low oil prices, says Clipperdata's Smith
Producers will also get hurt from the low oil prices, says Clipperdata's Smith

But the fallout would not just hit the energy industry, according to Currie. It would also spread into the credit market, where 15 percent of high-yield debt issuance is tied to the energy sector.

"You go below $50 a barrel, you create problems in high-yield," he said. "This spreads and becomes a much larger problem than just a commodity market problem. It becomes a credit market problem. We don't want to see that."

If energy companies have a harder time meeting their debt obligations, it could set off a chain reaction that spreads contagion throughout the broader credit market.

Goldman ultimately sees oil prices returning to $70 a barrel amid a broader rebound in commodities.

Currie says commodity prices and the fundamental value of the assets are more out of whack than he's ever seen. In his view, that's because active investors that trade commodities based on fundamentals like supply and demand have abandoned the market. That has left the commodities at the whim of momentum traders and automated strategies, which can magnify price swings.

That's why Currie thinks the G-20 meeting could be the catalyst for a rebound. It not only provides a chance for the Saudis and Russians to sway Trump, but for China and the United States to ease concerns about slowing global economic growth by tamping down their ongoing trade dispute. That could ultimately coax active traders back into the commodity market.