Gary Bourgeault Reports Deep Insight Into Oil Futures + Shale Production Update 00:49Z

One Thing The Oil Market Is Not Considering That Could Make It A Lot Worse Than It Already Is
Feb 23 2016, 13:34
Includes: USO, OIL, UCO, UWTI, SCO, BNO, DWTI, DBO, DTO, USL, DNO, OLO, SZO, OLEM

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(Note by Sananda. I see the author exludes issues like competing energy industrial sectors, like gas or renewables, or even coal, which can be treated clean and cheap, for industrial or household use. Not to mention ferrochrome magnet zero point; or so easy to, my engineering, I give it for free, to make you engine of whatever fossil fuel combustion turn water into expanding hot vapour under pressure, that a powerful spark would ignite into helium/hidrogen fusion oxygenating the atmosphere through the exhaust of you grandad’s forever car. Try a trans continental truck. So much manteinance savings, as well. The engine sounds different, because the vehicle is alive and happy, and She whistles and hums songs and poetry snd messages to passers by.
Update: If you look at the North Atlantic Thermal Anomaly studies and charts, it is not difficult to blame Cheasepeak Bay and Canadian Tar Sands miners for north west Atlantic distress and the Noreasters that have been attacking the northern states in US Atlantic. This must stop. It kills Earth the Mother. In many ways. Commenting on low priced crude and US recession. Western central and private banking are polluted with US Treasuries allover and energy derivative dependant debt and credit. This is no good. Hyperinflation is a big word, but after negative interest rates and in the midst of a covered by book forging recession, what else could be next after the 500€ and 100$ bill retirement. No money left but in your pocket. It will be a strange situation. You never know if you are winning or losing. I step back and watch the game. There are two articles in a row down here. They are both worth reading. Whoever you are. Whatever you do. Wind buzzing on my window. Something in the air like Saharian moans. Though it is cold.)

Summary

One thing few in the oil market are taking into consideration.
International Energy Agency downwardly revises global oil production through 2021.
Capex may eventually have an effect on supply further out.
Why the report may be too negative with production levels.
Oil price rebound will taken longer than expected.
The recent report from the International Energy Agency not only reinforced the strong probability the price of oil will remained subdued, but will be so for longer than expected.

I don’t disagree with that, but I am more skeptical of its longer term outlook on rebalancing of the market. As a matter of fact, it wasn’t even mentioned, and hasn’t been mentioned by many analysts at all concerning how it will have an impact on the price of oil over the next several years. What I’m referring to is the inevitable recession in the U.S. that is coming.

Floated about over the last year or so has been the nonsensical idea the U.S. economy has somehow mystically decoupled from the global economy. That is after the rise of China and other emerging nations was proffered for years as the catalyst for the growth of the global and U.S. economies. Now that China and emerging market growth is slowing down, it is being presented something that is not going to have an impact on the U.S. economy. That’s crazy.

Why this is so important to the price of oil is it isn’t being priced into the supply and demand equation, and that will result in many investors being surprised at the changing oil scenario once the U.S. economy falters. It’s a matter of when, not if it happens.

Since I believe it will be during the period of time the IEA has made these estimates, they have to be taken with a large grain of salt.

source: MarketWatch

IEA oil outlook

Before getting into the projections from the IEA, it should be understood there is self-interest in any outlook from the 29 major oil importers comprising the organization. It also has been over-optimistic for a rebound in the price of oil in the recent past, saying there would be a “”relatively swift” recovery.

My view is they were operating under the assumption these were simply another supply cycle, rather than a disruption from the U.S. shale industry in the short term, and further out, a disruption from the global shale industry once deposits are further explored and brought into production, such as is happening in Argentina.

The organization admits the volatility in the current market make it “more difficult than ever” to make accurate projections, pointing to how badly it missed on its prior market and price rebound estimates.

As for the outlook from the IEA, it says it sees output through 2021 climbing by 4.1 million barrels per day. That’s much lower than the pace of growth in supply in the last six years ended in 2015, which saw an increase of 11 million barrels per day.

Further out it sees U.S. oil output jumping to 14.2 million barrels per day by 2021, between 4 million and 5 million barrels more per day than today’s level. With a general consensus being U.S. production falling as much as 600,000 barrels per day for 2016, it means if oil does rebalance some in 2017, it would put a lot of oil into the global market over the next several years. That doesn’t include the increase from Iran that will come during the same time.

I don’t think there will be a decline in U.S. production of 600,000, but I do expect there to be some erosion by the end of the year. My outlook is probably for about half that much based upon the quality of shale wells currently in production.

U.S. recession

Since the emergence of the U.S. shale revolution, America hasn’t gone through a recession, so it’s impossible to know in the disrupted oil sector how that will have an impact on demand.

We know U.S. consumers will slow down in their consumption of gasoline and other oil-based products in a recession, but to what level and how it’ll impact a market producing much more domestic oil is an unknown.

Looking to China and its economic downturn isn’t an option because the data aren’t reliable. China’s economy is slowing down, as is its demand for oil and gas, but because it is always presented in a more positive light than warranted, we don’t know how deeply demand has been affected.

Oil and gasoline consumption in India is being looked to as offsetting some of China’s drop in demand, but I’m not convinced there either. It has yet to be proven, and India doesn’t have near the infrastructure in place that would result in gasoline usage at the level China has. It may help some, but it won’t be the positive catalyst some believe it will. A global recession would spoil that outlook in general too.

What is important when considering the recession side of the outlook is while most other countries of importance on the demand side are being analyzed with that as a possibility, the U.S. hasn’t been discounted in that regard. I believe it should; at least in the sense of it becoming a reality over the next several years. Not including a U.S. recession would bring about another surprise to the downside on the demand side of oil.

Capex

Another part of the outlook is concerning the significant reduction in capex over the last year or so, which further out will have an impact on supply. That will probably be true, but it seems to be priced in at the short term at a higher level than I am comfortable with. It’s not like a decline in development has an immediate effect on supply. It takes time to work its way through the process.

Also a factor is the way shale producers can develop wells and wait to bring them into production when the price of oil makes it profitable. This could offset a lot of the capex issues some are counting on to shrink oil supply over the next several years. Shale firms have continued to surprise on the production side, even after over 1,000 rigs have been brought out of production (including non-shale rigs). Why that would suddenly change in the eyes of some is a mystery to me. I understand some of the wells in production will decline, but I don’t think to the levels being put forth by the IEA.

My belief is the market still analyzes oil the same way it did in the pre-shale days; that is a huge mistake it will apparently take a long time to change.

Like many other assumptions made from the wrong diagnosis of this being a supply cycle, these assumptions could prove to be very wide of the mark as well.

Report may be too negative concerning production levels

A couple of major reason I think this report may be too negative with production levels through 2021, is not only will the U.S. enjoy some solid growth, but Iran will continue to boost supply as well, with the goal of bringing production back to pre-sanction levels. If it continues with that as a goal, it would add about 2 million barrels per day to the market on top of other supply growth.

This doesn’t include the growing amount of inventory that would have to be worked through once there is an actual rebalancing of the market.

With the U.S. and Iran bringing a lot more oil to the market, the conclusion of this report suggests the rest of the world is going to keep production at levels close to where they’re at now. I just don’t see that happening.

But if most other production were to remain close to where it is at today, it still doesn’t account for how much oversupply will continue being supplied to the market. The idea of a freeze is totally meaningless because the market leaders have brought production close to capacity, and an agreement should be considered irrelevant because of that.

All a potential freeze does is generate the misguided idea it would lead to production cuts. Saudi Arabia has stated very strongly and clearly it has not intention of cutting production and allowing competitors to take away market share. This is why any freeze agreement would have little more than a short-term impact on the price of oil.

As for Russia, it has nothing to lose because it will be forced to give up a little production because of lower output from its existing wells, so it would be happening there whether or not a freeze were officially agreed to. That won’t help the oversupply anytime soon. It only confirms Saudi Arabia and Russia aren’t giving up much if anything by agreeing to a production freeze.

Conclusion

Under a healthy global and U.S. economy the outlook for oil is dismal at best. Add to that an upcoming recession, and it further dampens the outlook on the demand side, which will drop significantly as consumers and the public sector cut back on spending.

While I understand why the IEA wouldn’t want to include a recession as part of its outlook, it will play a factor once it becomes a reality.

For that reason I believe the short and long term outlook for the price of oil is too optimistic, even at these low expectations. Not pricing in lower U.S. oil demand during a recession is a mistake that will skew demand expectations for oil over the next several years.

Not only do I see production being higher than the IEA is projecting over the next several years, but I see demand not increasing at the pace where a rebalancing would happen over the next year, or even two years.

Slowing economic growth, abundant oil supply, and a resilient U.S. shale industry point to this taking a lot longer to work itself out the market is starting to believe. This doesn’t even take into account the billions of barrels of recoverable shale oil other countries have yet to explore and develop in the years ahead.

Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.

I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.
Shale Industry?
Feb 23 2016, 17:23
Includes: USO, OIL, UCO, UWTI, SCO, BNO, DWTI, DBO, DTO, USL, DNO, OLO, SZO, OLEM
Summary

OPEC confirms it has no answer to U.S. shale, even as global shale production is coming.
DUC wells, along with the oil itself, is the disrupting force.
Why the proposed production freeze or cut is a joke.
OPEC’s response to U.S. shale shows a mark of desperation and capitulation.
I’ve been writing for some time now about the shale oil revolution being a disruptor, and recent comments from OPEC secretary-general, Abdalla Salem El-Badri, confirm this, saying he didn’t know how OPEC and shale oil could coexist or “live together.”

Speaking at the annual IHS CERAWeek meeting in Houston, he particularly noted the ability of U.S. shale companies to quickly respond to upward movement in the price of oil. He admitted it has never had to deal with a market condition like this, also confirming the thesis I’ve mentioned a number of times, that this isn’t a supply cycle but a disruption of the oil sector.

Now the question is if this is what’s happening with U.S. shale alone, what is going to happen when the global shale industry ramps up in the years ahead. The U.S. accounts for between 70 billion to 80 billion barrels of shale oil, with Russia generally believed to have a little more than the U.S. The total amount of estimated recoverable shale oil in the world is about 419 billion barrels, using U.S. formations as the benchmark to make those estimates.

Further exploration should result in a lot more oil, as evidenced by Argentina, which after increasing exploration has found a lot more shale oil in the country.

Most of the market isn’t even thinking of shale production outside the U.S. because of a cut in capital expenditure and the consequent intervals it’ll be introduced into the market over time. There is some shale oil in OPEC countries, but not enough to make a difference against competitors. It also wouldn’t make a lot of sense to compete head-on against U.S. shale companies, using a similar DUC well strategy.

(click to enlarge)

U.S. DUC well strategy

Shale oil in and of itself, because it is a relatively new supply source, especially at these production levels, would be enough to disrupt the market, although the response from OPEC would have given the cartel more time to make effective responses to a new oil source.

If there weren’t drilled and uncompleted wells, OPEC could have slowed the industry down much more than it is able to now. But with DUC wells, it provides a rapid strike response to an upward movement in the price of oil, which puts a ceiling on the mid and higher end of the crude as the various companies would take market share from OPEC and other competitors.

OPEC either has to continue pumping at these levels or give up market share. Another temporary solution, at least on the part of the Saudis would be to drop the riyal peg with the dollar, but so far it hasn’t hinted at taking that step, as it wouldn’t be domestically popular and would raise other issues.

As of April 2015 there were approximately 4,000 DUC wells in the U.S. ready to be brought into production when it’s profitable to do so. This is what OPEC means when it doesn’t know how to “live together” with U.S. shale oil. Past solutions to the price movement of oil no longer work.

There has been an attempt to freeze production by Russia and some OPEC countries, but that’s a joke to those that follow the market. Russia is producing at post-Soviet record levels and Saudi Arabia is producing at a very high level as well.

Proposed production freeze is disingenuous

To freeze production would simply lock in a supply level that still far exceeds demand. There is absolutely no value in the proposal at all.

Where the market is pricing it in is with where this proposed freeze could lead to a reduction in production. The problem there is Saudi Arabia, the day after the meeting with Russia, Venezuela and Qatar, very clearly stated it would not cut production. I believe what they said.

There has been some backing off that narrative, and now the idea being bantered about is that a freeze could lead to something more; although it’s not specifically stated, at least by Saudi Arabia, that it would participate in a cut in supply.

My thought is this is simply another attempt to support the price of oil while having to do nothing. There is obviously a concerted effort to drag out the production freeze and cut stories as long as possible in order to give a temporary price reprieve and take away some of the downward momentum.

A freeze would mean absolutely nothing if it doesn’t lead to a production cut, and Iran also has stated it won’t agree to a production cut or freeze as it boosts output after sanctions were recently lifted.

So Iran won’t agree to a production cut and Saudi Arabia has specifically said the same thing. Why does anyone believe it has any legs to it then? Even if they were willing to do so – and they aren’t – U.S. shale companies would ramp up production if the price moved up and take away market share. Again, this is what OPEC members mean when they have no answer to U.S. shale competitors.

When pressed about what would happen if a production freeze were deemed successful, El-Badri wouldn’t give an answer.

Did OPEC misread market, or are they helpless to do anything?

There are a couple of ways to look at the shale oil disruption from the point of view of OPEC. Either the cartel completely misread the market, or it knew fairly quickly once shale production climbed to significant levels, it had nothing it could do to battle the trend.

It has been suggested by El-Badri and others that OPEC didn’t think the price of oil would fall so low when they kept production at high levels. That may or may not be true. If it is, what they missed was the DUC well side of the equation. It wasn’t a big secret there was billions of barrels of recoverable U.S. shale.

Another probability in regard to the resiliency of U.S. producers is they were able to become more efficient and cut costs, allowing them to develop wells and cap them, giving them a weapon against OPEC and other competitors they didn’t have to face in the past. They can and will continue to do that for many years. Nothing can be done to stop it from happening.

I think OPEC didn’t understand the implications of shale on the development side, which caused them to take the same measures they took in the past when they had to deal with a supply cycle. That and the volume of shale being produced is what is bringing them to their knees.

A cursory glance at the U.S. shale market may suggest to some it’s in trouble, primarily from the numerous bankruptcies being reported in the media on a consistent basis. Those companies, overall, were never going to continue on one way or the other. History has proven that in market after market. Either they would have been acquired by larger competitors or they will have to sale assets at bargain prices. Both have happened and will continue to happen. Markets of this size always consolidate one way or the other.

All the low price of oil is doing is speeding up the process.

Over time, Saudi Arabia and others may benefit from this, as an U.S. shale industry presented by a much smaller group of large companies may make it easier to work with them. Big oil companies will probably prefer this outcome as well. They probably won’t mind changing the pace of production in order to prop up the price of oil if they need to. For now, almost all the shale companies have to keep production at high levels just to service their debt.

Conclusion

It is unprecedented to hear a representative from OPEC say it basically has no answer to the U.S. shale revolution. When taking into account the shale revolution will eventually sweep across the world, the balance of power in oil is dramatically changing.

That said, the U.S. will still be the chief shale competitor, although Russia will eventually generate some significant revenue once their shale resource is developed, adding to its production level.

The next move is in Saudi Arabia’s hands. Russia called its bluff when it said it was willing to talk about reducing production. I don’t believe the Saudis thought it would publicly agree to sit down and talk. That was before the proposed deal to freeze production at current levels. Before all the media hoopla, Saudi Arabia had stated only an agreement to cut production by 5 percent by OPEC and other major producers would result in a meaningful support for oil prices. It should have done its research before making that statement to the media, because Russia is seen as entering a period of a slow decline in output, so saying it would sit down with Saudi Arabia would be more beneficial to the Russians if a deal were ever to be made. It won’t, but it gave Russia a superior position in the eyes of the world.

I’m not sure why the comments by El-Badri were made, but I totally agree with them. U.S. shale producers have found a way to compete under the most difficult market conditions, with having everything thrown at the OPEC and Russia had to offer, and it’s still standing. This is what El-Badri was throwing in the towel about. He was essentially announcing to the market the old way of dealing with oversupply no longer work.

In the end, it appears what Saudi Arabia has been saying for a long time is true. It will have to wait for demand to catch up with supply before there is a rebalancing. Market forces are truly what is driving oil now, not supply manipulations from OPEC.

Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.

I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

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