At what crude price will U.S. liquids production slow sufficiently to reboot that price?
Analysts agree a production slowdown is the cure, absent OPEC or non-OPEC cutbacks.
Raymond James analysts led by J. Marshall Adkins ran the numbers in early December. According to their report, “current 2015 oil price strip levels around $65 to $70 WTI over the next year to 18 months should be the right price to slow U.S. oil production growth and thus rebalance the global oil markets in 2016.”
The analysts changed their 2015 to 2016 U.S. oilfield cash flow, activity and spending assumptions in calculating the price needed to balance oil markets. They assume U.S. exploration and production (E&P) spending will fall 17% in 2015 and another 9% in 2016. They look for the average annual U.S. drilling rig count to tumble by 19% (or 348 rigs) in 2015 and by another 11% (or 170 rigs) in 2016, for a 32% peak-to-trough decline over the next 18 months.
The average annual horizontal drilling rig count will decline by 13% (or 164 rigs) in 2015 and by another 7% in 2016 for a 25% decline over the next 18 months, they figure. And lastly, “U.S. E&P cash flows [industrywide] will fall by 29% in 2015, then stabilize to relatively flat in 2016.”
A surprise is the “severe sensitivity of U.S. E&P cash flows to different oil price scenarios. Put simply, at oil prices below $70, E&P cash flows fall precipitously while at oil prices above $85, E&P cash flows explode higher … .”
Despite a 7% increase in production volumes in 2015, “we still expect U.S. E&P cash flows to decline by a whopping 28% in 2015,” the analysts said, although they don’t expect this downturn to be as severe as the one in 2009, when U.S. cash flows fell by about 40%.
“Despite the pending E&P cash flow deterioration in 2015 year, it is important to note that U.S. E&P cash flows should stabilize [only down 2%] in 2016, even if oil prices remain at $70 for the next two years.”
Oilfield spending is also at risk. The analysts said “the real question will be how much will the financial markets let E&P companies outspend cash flows?” They expect cash flows available for drilling to deteriorate nearly 30% in 2015 but U.S. E&P capex to only drop by 17%. This level of outspend “is not unprecedented,” they said, pointing to the greater outspend of the industry in 2007 and 2012.
While all will suffer, some liquids-producing plays will hold up better than others. The analysts expect the Permian and Eagle Ford to see smaller percentage declines (25% and 23%, respectively) versus other plays. The Midcontinent plays will bear the brunt, they said.
Overall, they anticipate that oil prices of $65 to $70 in 2015 will drive U.S. E&P cash flows, spending and rig counts low enough to “fix” oil by 2016—by working off the 1 million barrels per day (MMbbl/d) of true excess capacity currently.
“While this is clearly ugly,” they said, “it is important to note that this type of reduction in activity and oil supply will likely leave the oil markets meaningfully short of oil in 2017.
“That means look for a relatively short-lived [12 to 18 months] downturn in the oilfield cycle followed by a strong resurgence in 2017.”