In a Wall Street Journal interview this week, IEA chief Fatih Birol predicted oil prices rising to $80/BBL in 2017. The rationale? "Current prices are not sustainable", whatever that means. This seems to be more wishful thinking than hard fact or intelligent analysis. I am sure the IEA, like most everyone else, is hard pressed to make sense of this historic situation.
In another WSJ article, a survey of investment banks delivers “a sobering message”, oil prices won’t break $60/BBL next year. Really? Prices today are below $40. Inventories are at record levels and some express concern that storage capacity may soon be so full that floating storage in tankers may be brought on line.
Yet there are some that expect (or hope) that this week’s OPEC meeting will bring some rationality to the market and there will be a short term bump in prices. The reasoning is that the Saudi’s are under pressure from the poor OPEC members to reign in production. Since when did the likes of Venezuela, Ecuador and Nigeria hold sway with the Saudi royal family? And let us not forget Russia. Stirring up trouble in the region, supporting a Shiite dictator and courting their arch enemy, Iran, does not seem to be a way to gain influence. Indeed, it may be in Saudi Arabia’s interest to counteract Russia’s military adventures economically, much as Reagan did in the ‘80s. Iran, expecting to bring between 500,000 and 1 million barrels a day to market next year would not be helpful to the kingdom now combatting Houthi rebels on its southern border. Yes they are burning through foreign currency (i.e. dollar denominated) reserves, but do not seem to be nearing the panic button.
Here is another perspective. One target of the Saudi full out production policy is the US shale oil industry. Pain has been inflicted to be sure and some of the weaker players are filing for Chapter 11. Even the strong players, such as Continental Resources, are reducing CAPEX. But the extent to which they have reduced costs is impressive. Reductions this year alone exceed 20%. There seems to be more room to run on this one. Continental’s innovative Eco-Pad approach is one example.
The other trend is that producers are striving to increase their Expected Ultimate Recovery numbers, basically the recoverable reserves per well. How? They are developing their best prospects first and using every trick in the book and then some to maximize flow rates. The industry is not slowing down, they may be trimming the less attractive locations from the budget, but they are spending. This is not maintenance spending. The best players are well north of the amount they need to spend to maintain production.
Ok, but there is a limit to how much they can reduce costs and the inventory is not infinite. True, but in many cases, the inventory is measured in decades. The Bakken/Three Forks is already one of the world’s ten largest oil fields and, its estimated recoverable reserves keep growing each year. That is not to mention the other potential giant fields in the Rocky Mountains, the Utica, the Permian Wolfcamp and the two newcomers in Oklahoma: SCOOP and STACK. The potential is enormous in the traditional oil provinces. California’s Monterrey has the largest shale oil resource in the US. It may not be developed for years or even decades due to technical challenges, but we have seen how those barriers have folded like a cheap lawn chair.
Now let’s consider the international shale potential. The map above shows the known assessed shale deposits likely to contain recoverable hydrocarbons. China has more shale BTU potential (as it is now known) than the US. Canada has its own equivalent of the Utica. These are countries more than happy to develop their resource base. South Africa and Argentina are both significant holders of shale resources. With the recent election of a center-right government in Argentina and a desire to boost economic growth in both countries; who cares that France has banned hydraulic fracturing?
The notion that prices will rise any time soon is an illusion. Consumers and manufacturers should be rejoicing and governments should see this as a way to lift economic growth. Producers need to confront reality as many already are. There are some companies that will not and, probably should not, survive. There are others, good capital stewards, who should be entrusted with the best assets. Eventually, this will all sort itself out and some stability will return, albeit at permanently low prices. The key question for producers is:
What are you doing to survive and eventually thrive?
The good capital stewards know, but what about the 75% who are not? Of those that take the initiative to learn, how many will commit to the necessary changes?