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Page added on January 3, 2016
Oil’s prologue likely to be a harbinger of worse things to come
In any assessment of the oil price crash, it is worth remembering Shakespeare’s aphorism: “What’s past is prologue”.
In 2015, it appeared that the salient features of the US oil industry were: falling costs and rising productivity, which meant total output fell only gently from its April peak; continued investor support for capital raising (at least in the first half of the year); sluggish merger and acquisition activity; and a sharp rise in bankruptcies (but only a few with debts over $2bn). This prompted talk about the resilience of US shale oil, with some justification. Fears — or hopes — that shale production would rapidly dry up have turned out to be misplaced.
However, the effects of the fall in the oil price are still only beginning to work through. All we have seen so far is the prologue to what are likely to be more dramatic events in 2016.
Last year’s shake-out in the industry was still relatively subdued. Now that oil prices have taken a further lurch downwards — with benchmark Brent crude hitting 11-year lows towards the end of 2015 — the financial pressure on oil producers is growing.
At the same time, some of the defences that helped protect companies against the impact of lower oil and gas prices have been crumbling. Hedging positions put in place when prices were higher have been rolling off. And while Pioneer Natural Resources and a few other companies had hedged most of their oil production to protect this year’s revenues, many others — such as Continental Resources, EOG Resources and Apache — did not.
Cost-cutting has helped improve the economics of shale production, but there has been a wide variation in the size of the savings. Last month, Devon Energy said that in the Bone Spring formation in the Permian Basin of west Texas it had cut the cost of a well by more than 30 per cent since the fourth quarter of 2014. But EOG said in November that the average cost of its wells in the Eagle Ford shale of south Texas had fallen just 10 per cent since 2014.
Productivity gains have been similarly uneven. In the principal US shale oil regions, the volume of production from new wells per rig running (a measure of productivity used by the government’s Energy Information Administration) has risen by 48 per cent over the past year. Those gains have been achieved by retiring the older and less efficient rigs first, by drilling in the most productive “sweet spots”, and by improvements in technique. Companies have been drilling faster and using longer horizontal wells, and optimising factors such as the amount of proppant — the sand or similar substance used to hold open cracks in shale to allow the oil to flow out — to maximise production.
But, since October, productivity gains have stalled in two of the principal shale formations: the Eagle Ford and the Bakken of North Dakota. Combined with steep falls in the number of rigs working, that has meant production in those regions has been dropping: in the Bakken by 11 per cent from a peak last June, and in the Eagle Ford by 30 per cent from a peak last March.
Productivity and production in the Permian Basin are still rising, but the EIA expects total US production will drop by 920,000 barrels per day — about 10 per cent — in the year to next September.
Even at last year’s oil prices, the industry was not making money. In the first nine months of 2015, when US crude averaged $51 per barrel, cash outflows for capital spending and acquisitions exceeded inflows from operations by $907m for Noble Energy, $1.57bn for EOG, $1.85bn for Chesapeake Energy and $1.94bn for Hess. At today’s oil price of about $37, revenues will be even lower.
With no growth and no profits, the US exploration and production industry is facing a gruelling year. The gap between strong and weak companies is likely to widen. Those that have lower-cost production and healthier balance sheets should be able to stay in business. Those that have good assets but big debts may have to sell their most valuable properties. Those that have neither attractive assets nor strong finances will be heading for bankruptcy.
Tensions stirred at the weekend by Saudi Arabia’s execution of a dissident Shia cleric were a reminder that the world still depends on oil supplies from the Middle East. Barring unexpected disruptions, though, the way in which the oversupplied global oil market is likely to be brought back into balance is through financial constraints hitting investment and curbing supply. This year, the US shale industry can be expected to play a leading role in that rebalancing.
26 Comments on "Oil’s prologue likely to be a harbinger of worse things to come"
Go Speed Racer on Sun, 3rd Jan 2016 3:41 pm
Wow that is a cool picture. Hope he unplugged the motor, before climbing up there. We should make more 1977 Ford LTD 4-door with moonroof, power everything, A/C that blows snowflakes at you, and a 460 engine. Just cause they need help with burning up all that oil.
JuanP on Sun, 3rd Jan 2016 4:14 pm
Not a bad article considering it is from the Financial Times.
“… but the EIA expects total US production will drop by 920,000 barrels per day — about 10 per cent — in the year to next September.” I find it hard to believe, but I actually agree with this EIA forecast, which I find confusing since I basically never agree with their forecasts and usually consider them BS. Now, I am not an expert or an industry insider, but my superficial understanding of the oil business led me to the conclusion that US oil production would fall by around 1 mbpd in 2016, and I have held this opinion for a few months now.
onlooker on Sun, 3rd Jan 2016 4:37 pm
Good article spelling out where about we stand now in this oil drama.
twocats on Sun, 3rd Jan 2016 4:49 pm
Shale isn’t the swing producer, but it is the marginal producer. But the companies have been playing with other people’s money so it didn’t matter the losses. In watching the Big Short I was reminded again that these bubbles last a lot longer than most reasonable people think is possible, even Long After Prices and Markets have begun decaying.
Prices began to fall starting June 2014 – so we are a year and half into the collapse of the oil markets and things still seem “relatively” stable. I can’t imagine the near daily crises management a lot of these companies are going through. I’ve worked for small ($3 million per year gross revenue) and medium ($20mpy) companies and been in situations where you are scrambling to make payroll or insurance premiums – but that was child’s play to these companies.
A rag like the FT does have some interest in preserving its credibility by publishing factual realistic pieces, but still, the tone of this article is pretty dour. So that lends itself to an oil-market collapse probability. IF prices recover modestly between $60 and $80 for WHATEVER reason, then we would probably have a hockey-stick save, at least on the oil front.
People have mentioned that “oh no big deal, if these companies go bankrupt other companies will come in and gobble them up”. Any chance that doesn’t happen? I mean, for the big banks to take on the toxic entities from housing collapse (Countrywide, WaMu) the government had to sweeten the pot quite a bit.
J-Gav on Sun, 3rd Jan 2016 5:40 pm
Yeah, that is a great photograph. As for the article, it tries to make a point but doesn’t suite get there.
J-Gav on Sun, 3rd Jan 2016 5:41 pm
“quite get there”
makati1 on Sun, 3rd Jan 2016 6:48 pm
“This year, the US shale industry can be expected to play a leading role in that rebalancing.” by collapsing totally.
twocats on Sun, 3rd Jan 2016 9:08 pm
heh heh, good one makati
makati1 on Sun, 3rd Jan 2016 10:43 pm
twocats, coming to an investment near you. LOL
rockman on Mon, 4th Jan 2016 12:33 am
Twocats – The bankrupt companies won’t be “gobbled up” per se. Most of those companies will simple ceast to exist. Most of their undrilled lease will expire. Their producing wells will be acquired by other companies. And the big difference in this collapsed compared to the 80’s is most of fhe cuurent wells will have very little future production compared to the conventional fields acquired in the 80’s.
Not a terrible article but it falls like many to appreciate how slowly the dynamics change. I see no reason to debate today how much or how little production will change in 2016. By the end of 1Q 2017 the trend should be obvious.
shallow sand on Mon, 4th Jan 2016 5:28 am
While shale is the media focus, conventional US onshore is collapsing. Look at the declines in states like UT, CA and KS, which do not have much horizontal well activity. Given the low number of new vertical completions in 2015, and likely lower yet in 2016, look for this trend to continue. Ex Alaska, look for a drop from 2.6 million bopd as of 12/14 to nearing 2 million bopd 2H 2016. That is a hell of a collapse.
Add in greatly reduced activity ahead in GOM, non-LTO US production, including Alaska will likely be below 4.5 million bopd permanently.
The US is and will be dependent on both domestic LTO and foreign oil for the majority of its oil supply. Until prices rebound, look for cheaper to produce foreign oil to displace LTO.
Ralph on Mon, 4th Jan 2016 5:29 am
EIA oil forecasts are oil consumption forecasts. They simply assume that that oil supply will match anticipated demand. Works fine as long as physical constraints do not get in the way.
JuanP on Mon, 4th Jan 2016 6:04 am
Rock, From what I’ve learned through the years over at TOD, here, and other places from people like you, my understanding is that oil production investment and production cycles are slower, longer, and more variable and unpredictable than I imagined before. There are so many different types of geologists structures, locations, wells, companies, countries, geopolitical tensions, technologies, and economic variables involved that one can make a guess about future production levels, but it is nothing more than a guess. For how many years did Shell spend billions in the Arctic before giving up? When will prices go up again? How large are companies’ hedges? Etc., etc.
It’s like you have been pointing out for years, the long term trends are what really matters, the POD!
Estimating future production can never be more than a guess, IMO.
JuanP on Mon, 4th Jan 2016 6:05 am
That was supposed to be geological structures. I should disable autofill, but when I do I miss it.
shortonoil on Mon, 4th Jan 2016 7:26 am
This is a repost from the forums: Forbes: Peak Oil was 2011 and 2015
“Peak Oil is a statistical function. Without doing more work on this than is necessary, we can say with a 97.5% probability that Peak will have occurred if for two consecutive years production has fallen by at least 1.65 mb/d from the previous year. That is based on 49 years of data taken from the EIA; which is about the best that there is. Production fell by more than 1.65 mb/d per year four times over that period, and it fell by a lesser margin from its previous year 14 times over that same period.
To be 99.5% sure that peak had occurred in any year production would have to fall by 5.001 mb/d for that year. Using volumetric data, Peak will not likely be known with any reasonable level of confidence, for at least two years after it has occurred. Use of an energy metric is not so constrained by such limitations.”
http://www.thehillsgroup.org/
shallow sand on Mon, 4th Jan 2016 7:31 am
ROCKMAN. I believe you have operations in LA and MS. EIA shows large production declines in those states on a percentage basis. Any info you can add?
rockman on Mon, 4th Jan 2016 8:23 am
shallow – Been on a well for the last 5 days. Will dig up numbers when I get home this afternoon.
Davy on Mon, 4th Jan 2016 8:26 am
Short, I don’t fully understand the details of your above comment but I saved it in my notes. That type of comment is a huge challenge to the status quo view of oil.
geopressure on Mon, 4th Jan 2016 8:56 am
Short;
What is your definition for the term “Peak Oil”???
Because based upon a number of your post (pretty much any post where you reference ‘the hills group’), I think there must be a HUGE difference between what you & I consider the term “Peak Oil” to mean…
twocats on Mon, 4th Jan 2016 9:33 am
Most of those companies will simple ceast to exist. Most of their undrilled lease will expire. Their producing wells will be acquired by other companies [rockman]
Will the leases be reissued? Is that a lengthy process?
I see no reason to debate today how much or how little production will change in 2016. By the end of 1Q 2017 the trend should be obvious. [rockman].
So you think that’s baked into the cake already, even if we had a price turn around in the next several months?
97.5% probability that Peak will have occurred if for two consecutive years production has fallen by at least 1.65 mb/d from the previous year… o be 99.5% sure that peak had occurred in any year production would have to fall by 5.001 mb/d for that year. [shortonoil]
I don’t think I’ve ever seen someone put actual probabilities of peak oil based on production numbers before, kudos short.
twocats on Mon, 4th Jan 2016 9:38 am
Well, for those that doubted that the economic & political side of things is really beginning to crack just check Zerohedge this morning:
http://www.zerohedge.com/news/2016-01-04/happy-new-year-global-stocks-plummet-after-china-crashes-halted-limit-down
It can be hard to see true doom when one is so focused on every piece of doom floating around the ether, but rest assured your truth-seeing eyes are not deceiving you – “it’s going down for real” [flo rida]
shortonoil on Mon, 4th Jan 2016 9:59 am
“Short, I don’t fully understand the details of your above comment but I saved it in my notes. That type of comment is a huge challenge to the status quo view of oil.”
It is simply a statistical analysis of the distribution of production changes over 49 years; 1960 -2009. It is a straight out of the text book application, based on the T Statistic with 48 degrees of freedom. Whereas the production distribution is not a normal distribution, the change in year to year production levels is very close to one: with a mean of 1.05 mb/d, and a standard deviation of 1.88.
There are much more sophisticated statistical methods that could be used, but the chances of them producing results that are much different probably isn’t worth the effort of employing them. The last half century of petroleum production establishes a very distinct distribution with very definable characteristics. If those characteristics change (which is definable in probability terms) something significant has obviously occurred. If that change is not anthropocentricly produced (like someone nuking Saudi Arabia) then it must be a natural phenomena; such as depletion, which we know is the inevitable out come of natural resource extraction.
marmico on Mon, 4th Jan 2016 12:10 pm
If that change is not anthropocentricly produced (like someone nuking Saudi Arabia) then it must be a natural phenomena;such as depletion
ROTFLMFAO
The 1980-83 demand response of negative 15% to the 1979 supply shock was definitely “anthropocentricly [sic] produced”.
http://don.geddis.org/bets/peakoil/eia-doe-1960-2006.html
shortonoil on Mon, 4th Jan 2016 1:07 pm
http://www.eia.gov/beta/international/data/browser/#?iso=SAU&c=0000000000000000000000000000000000000001&ct=0&ord=CR&pa=0000000000000000000000000000000000vg&f=A&ug=g&tl_type=p&tl_id=5-A&cy=2014&start=1980&end=2014&vs=INTL.53-1-SAU-TBPD.A&v=T
http://www.thehillsgroup.org/
shortonoil on Mon, 4th Jan 2016 3:46 pm
“The 1980-83 demand response of negative”
There is not one mention of demand implied, or otherwise in the post above. Go crawl back under your rock.
makati1 on Mon, 4th Jan 2016 7:11 pm
I would say the ability to purchase determines oil prices today, not oil availability. In that arena, I don’t see conditions improving … ever. Just more collapse, slow or fast. Does it matter really if you are prepared?