Abu Dhabi, UAEFriday 29 May 2020

Shale output cut was expected but a fall this deep and this fast was not

Drillers are laying down rigs and shutting in wells at a frantic pace in response to the plunge in oil prices caused by the coronavirus pandemic

Shale oil well in the Permian Basin near Crane, Texas. Shale production has gone down sharply as demand for oil plunges. Bloomberg
Shale oil well in the Permian Basin near Crane, Texas. Shale production has gone down sharply as demand for oil plunges. Bloomberg

In brokering the end to the global oil-price war last month, the Trump administration assured leaders that America’s shale patch would throttle back production.

But few expected that the cuts would run this deep – and happen so quickly.

Drillers are laying down rigs and shutting in wells at a frantic pace in response to the plunge in oil prices caused by the coronavirus pandemic. A week after West Texas Intermediate crude settled below zero for the first time ever, analysts at JP Morgan projected that the US would cut output by 1.5 million barrels per day by June. Two weeks into May, production is already down by at least that much and continues to decline.

As a result, oil storage tanks that were in danger of brimming over got a break last week when inventories shrank for the first time since January. WTI for June delivery rallied to near $30 per barrel on Friday, up from $10.01 when it became the prompt contract on April 21.

“We were already in the midst of a transition away from high growth into slower growth,” Raoul LeBlanc, a Houston-based oil expert at IHS Markit said. “We just got cut off at the knees.”

The declines include 758,000 bpd of announced reductions in the US by some of the country’s biggest producers including ConocoPhillips, Continental Resources and Chevron, according to data compiled by BloombergNEF.

More than 500,000 bpd of production in the Bakken region of North Dakota and Montana has been shut in. Daily output from Alaska’s North Slope is down by about 100,000 barrels from early March.

In April, US Energy Secretary Dan Brouillette told world leaders that the US will cut production by about 2 million bpd this year.

Rystad Energy said that US production shut-ins will reach at least 2m bpd in June, including natural gas liquids, with Permian-focused producers in West Texas and New Mexico driving 42 per cent of the curtailments expected.

Some producers expect that currently projected June cuts may eventually increase depending on the prevailing oil price, but curtailed oil volumes should mostly return to pre-cut levels in the third quarter of 2020, Rystad said in a research note.

Plains All American Pipeline said in its first quarter earnings call that shut-ins in the US and Canada combined are somewhere between 3.5m and 4.5m bpd.

“We assumed June, July time period for trough and then some activity resumption in the August time period,” Plains' executive vice president Jeremy Goebel said in the May 5 call.

Things in the shale patch began to change quickly this spring when disagreement on supply cuts between Saudi Arabia and Russia led to a sharp decline in prices just as the global coronavirus pandemic began to smash demand.

Pioneer Natural Resources, an independent producer, which has operated in the Permian Basin for decades, asked the state of Texas to impose mandatory production cuts to save the industry from what it claimed would be irreparable damage over the coming months.

The proposal came less than a week after Texas Railroad Commissioner Ryan Sitton proposed a 10 per cent production cut in the state. Although a cut was never agreed upon, producers were already forced to shut in output.

Not to be discounted, Canada, America’s largest source of foreign crude imports, slashed investment and production from the oil sands beyond expectations.

A month ago, IHS Markit estimated capital expenditure cuts in Western Canada’s oil and gas sector would total over $6 billion (Dh22bn), but as the grim reality of record low oil prices set in, producers cut spending by more than $8.4bn.

By May 8, more than 700,000 bpd of output reductions had been announced, according to IHS Markit. Canada’s biggest companies including Canadian Natural Resources, Suncor Energy and Husky Energy have all reduced heavy oil output.

The consultancy now predicts that western Canada’s output my decline by more than 1m bpd in the second quarter compared to the fourth quarter of last year.

“From a big picture point of view, the worst is behind us and the market is moving toward re-balancing,” Daniel Ghali, a TD Securities commodity strategist, said. “The supply cuts have been fairly massive.”

To be sure, even after last week’s decline, US crude stockpiles are still close to record highs and a fleet of 30 Saudi oil tankers with more than 50 million barrels of crude are just now starting to arrive on the US Gulf and Pacific coasts.

Oil prices are not expected to rise fast and when they do start to climb, expect shale producers to open production as soon as they can.

The second half of the year will not be met with pre-crisis oil prices again as the gigantic oil stock overhang must first be worked down, according to Rystad Energy’s head of oil markets Bjornar Tonhaugen.

“We believe stocks will be reduced gradually over the next 12 months or so,” Mr Tonhaugen said in a note Friday. “All bets though hinge upon avoiding a second wave of the coronavirus, which is yet to be seen as countries remove lockdowns around the world.”

Updated: May 17, 2020 09:39 AM

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