consultants are sandburs

Monday, December 15, 2014

Having earlier challenged "Drill Here, Drill Now, Pay Less," as politician blowhard rhetoric, ...

Terry Hendriksen by email challenged me because of current pump prices for gasoline. What do you say now, was his question.

Globe and Mail has what is a representative but extended analysis of the current oil market. Here.

This rather extended mid-item excerpt may be regarded by some as relevant to Hendriksen's question:

It’s too early to call “mission accomplished” for the Saudis. The OPEC leader is playing a long game in order to preserve its oil market share by making life difficult for the high-cost oil producers, and its strategy is showing early signs of success.

The quick reaction time by some of the high-cost producers, notably the American shale oil drillers, is why one of the world’s foremost oilmen, Sadad Al-Husseini, the former executive vice-president of Saudi Aramco, the world’s biggest oil and gas company, is becoming bullish on oil even as Brent prices sink to the low $60s.

“If you go down low enough, as we are now, you’ll get to the point where there is little investment, which is what we’re going through,” he said in an interview in Al Khobar, the Saudi city filled with Aramco employees in the country’s oil-rich Eastern Province. “You will force the excess out of the market and demand will take you back up. That is what is about to happen.”

‘Strength of the profit motive’

Mr. Al-Husseini, 67, worked at Aramco until his retirement in 2004 and was a member of its board and its management committee. During his Aramco career, he was instrumental in making 20 discoveries, including vast gas fields and the central Arabian and Red Sea oil fields. He is now president of Husseini Energy, an oil consultancy based in Bahrain that advises financial institutions and the oil services industry.

He admits he underestimated the “strength of the profit motive” that turned the United States into a shale oil powerhouse. Since 2010, U.S. shale oil production is up by three million barrels a day. But he feels confident that waning investment is already hitting production growth and that prices won’t fall much farther as the supply-demand balance tightens up.

“When prices come down 40 per cent, you’re not going to keep spending like there is no change,” he said. “My guess is that by the end of second quarter of 2015, there will be a returning confidence in oil. Does that mean it will go to $115? No, that was never a sustainable number. Could it go as high as $80, maybe $90? Sure.”

Unlike some of their more vulnerable OPEC partners like Venezuela and Nigeria, the Saudis can afford to be patient and wait for the market to recalibrate. But it too faces fiscal pressure as it spends heavily to diversify its economy and provide social benefits to a young population. The International Monetary Fund estimated early this year that Saudi Arabia needed an oil price of $89 (U.S.) a barrel to keep its budget out of the red, up from $80 in 2012.

U.S. shale oil is generally far more expensive to produce than Saudi oil, which has the lowest pumping costs in the world. Shale oil wells deplete rapidly, meaning a lot of them have to be drilled constantly to keep production intact.

The upshot? Shale oil output is much more sensitive to falling prices than Saudi oil, and the market is beginning to work its magic. Although the U.S. rig count remains well above the level of a year ago, it saw its biggest drop in two years this week and has declined in six of the past nine weeks. And it’s expected to drop sharply next year.

Estimates of break-even costs for new production in the three key shale basins – the Bakken, Eagle Ford and Permian – range from $60 to $70 a barrel. But there is wide discrepancy in the actual break-even costs for each well, and companies will focus spending on their best prospects.

“Balance sheets are going to force discipline,” said David Pursell, an analyst at Tudor Pickering & Holt Co. in Houston. “When we look at basin economics, there’s just a handful of core areas that make economic sense to continue to drill at even $70 crude. ... Companies will drop rig count very quick to stay within cash flow so they don’t see their balance sheets unravel. And they can unravel very quickly if they maintain the current activity level into 2015 at a much lower oil price.”

Most vulnerable are the smaller exploration and production (E&P) companies that have taken on debt as their spending outpaced their cash flow, and Mr. Pursell said the high-yield debt market on which they rely is already showing signs of nervousness. Companies like Range Resources Corp. and SandRidge Energy fall into that category.

The Tudor analyst sees the rig count dropping by nearly a third from the recent 1,600, but said it will still take several quarters before production growth slows. He predicts U.S. production will rise by 592,000 barrels a day next year and 226,000 in 2016, after growing by nearly one million barrels a day this year.

In a release Friday, the U.S. Energy Information Administration also indicated it will take time for the impact of lower prices to be felt in the supply picture. The EIA forecast that U.S. production will average 9.3 million barrels a day in 2015 – up from 8.6 million in 2014 and closing in on Saudi’s estimated 9.60 million daily output.

Mr. AL-Husseini is no fan of the theories that the decision by OPEC (read: Saudi Arabia) not to trim the cartel’s 30-million– barrel-a-day production quota at its November meeting in Vienna was a political act of war aimed at punishing Russia and Iran for their support of the al-Assad regime in Syria or aimed solely at choking off U.S. shale production.

He said it was a market decision designed to trim high-cost production wherever it lies, including Brazil’s offshore fields and Canada’s oil sands, to end the oil glut. An OPEC production cut would have only propped up prices, he noted, “subsidizing the high-cost oil at the expense of low-cost oil,” the latter being Saudi Arabia and Gulf allies such as Qatar.

Among the high-cost producers, there is no doubt that U.S. shale oil would be quickest to trim investment and thus output. Mr. Al-Husseini said that, even if oil prices were to remain fairly strong, the shale industry’s ability to deliver ever-higher production would not be assured. That’s because shale wells are short-lived creatures. His research says that shale oil (and natural gas) wells decline at a rate of 50 to 70 per cent a year, “requiring intense capacity replacement drilling.”

That means shale fields require more and more drilling to maintain production and that gets expensive. At the huge Eagle Ford shale field in southern Texas, some 4,500 new wells will have been drilled in 2014, of which 3,800 are required just to maintain production.

Web search can yield comparable though shorter analyses, some better than others; e.g., somewhat randomly picked items online here, here and here. And here, suggesting stock market players should not bet against the energy sector long-term.

Birinyi said the stock market will steady once it's gets more information on where oil is going. "It's going to be another one of those adjustments the market is going to make," he said.

Since oil began falling, the S&P energy sector has lost 24.3 percent, while the next worst market sector, telecom, was down just 6.2 percent. In the same period, health-care stocks have risen 14.4 percent and tech has risen 9.2 percent.

"This will encourage people who are less than enamored with the stock market. They will use this as a reason to hesitate," Birinyi said.

If you expect pump prices to remain as they are, or to fall further with the per barrel oil price continuing to drop, you may be right, you may be wrong, but the short term and long term may differ while renewable energy prices continue to drop and electric automobile expectations play out, such as witnessed by the Tesla mega-sized Lithium battery manufacturing investment as a factor that should also play into oil pricing. But as with Econ. 101 supply/demand blackboard sketching and accompanying dogma, it is the higher cost new entrants attracted by inflated prices making them profitable, and they are the same to exit a market when prices drop below their break-even point. And that seems to be the fracking truth or more importantly the fracking expectation in what is playing out these days from wellhead to gas pump.

Adjustments likely will be made. "Recalibrate" is the one single word one might focus upon, if having to choose but one in the above excerpt. Like the GPS unit, "Recalculating, ...".

UPDATE: This online report, with interesting chart accompanying commentary.

No comments: