By James Stafford, Oilprice.com:
The U.S. shale boom has seen huge hype, but the numbers speak for themselves, and such overflowing optimism may have been unwarranted. In this interview with James Stafford of Oilprice.com, energy expert Arthur Berman offers a dose of reality, and it’s not pretty:
OP: The Current Oil Situation – What is your assessment?
Arthur Berman: The current situation with oil price is really very simple. Demand is down because of a high price for too long. Supply is up because of U.S. shale oil and the return of Libya’s production. Decreased demand and increased supply equals low price.
As far as Saudi Arabia and its motives, that is very simple also. The Saudis are good at money and arithmetic. Faced with the painful choice of losing money maintaining current production at $60/barrel or taking 2 million barrels per day off the market and losing much more money—it’s an easy choice: take the path that is less painful. If there are secondary reasons like hurting U.S. tight oil producers or hurting Iran and Russia, that’s great, but it’s really just about the money.
Saudi Arabia met with Russia before the November OPEC meeting and proposed that if Russia cut production, Saudi Arabia would also cut and get Kuwait and the Emirates at least to cut with it. Russia said, “No,” so Saudi Arabia said, “Fine, maybe you will change your mind in six months.” I think that Russia and maybe Iran, Venezuela, Nigeria and Angola will change their minds by the next OPEC meeting in June.
We’ve seen several announcements by U.S. companies that they will spend less money drilling tight oil in the Bakken and Eagle Ford Shale Plays and in the Permian Basin in 2015. That’s great but it will take a while before we see decreased production. In fact, it is more likely that production will increase before it decreases. That’s because it takes time to finish the drilling that’s started, do less drilling in 2015 and finally see a drop in production. Eventually though, U.S. tight oil production will decrease. About that time—perhaps near the end of 2015—world oil prices will recover somewhat due to OPEC and Russian cuts after June and increased demand because of lower oil price. Then, U.S. companies will drill more in 2016.
OP: How do you see the shale landscape changing in the U.S. given the current oil price slump?
Arthur Berman: We’ve read a lot of silly articles since oil prices started falling about how U.S. shale plays can break-even at whatever the latest, lowest price of oil happens to be. Doesn’t anyone realize that the investment banks that do the research behind these articles have a vested interest in making people believe that the companies they’ve put billions of dollars into won’t go broke because prices have fallen? This is total propaganda.
We’ve done real work to determine the EUR (estimated ultimate recovery) of all the wells in the core of the Bakken Shale play, for example. It’s about 450,000 barrels of oil equivalent per well counting gas. When we take the costs and realized oil and gas prices that the companies involved provide to the Securities and Exchange Commission in their 10-Qs, we get a break-even WTI price of $80-85/barrel. Bakken economics are at least as good or better than the Eagle Ford and Permian so this is a fairly representative price range for break-even oil prices.
But smart people don’t invest in things that break-even. I mean, why should I take a risk to make no money on an energy company when I can invest in a variable annuity or a REIT that has almost no risk that will pay me a reasonable margin?
Oil prices need to be around $90 to attract investment capital. So, are companies OK at current oil prices? Hell no! They are dying at these prices. That’s the truth based on real data. The crap that we read that companies are fine at $60/barrel is just that. They get to those prices by excluding important costs like everything except drilling and completion. Why does anyone believe this stuff?
If you somehow don’t believe or understand EURs and 10-Qs, just get on Google Finance and look at third-quarter financial data for the companies that say they are doing fine at low oil prices.
Continental Resources is the biggest player in the Bakken. Their free cash flow—cash from operating activities minus capital expenditures—was -$1.1 billion in the third- quarter of 2014. That means that they spent more than $1 billion more than they made. Their debt was 120% of equity. That means that if they sold everything they own, they couldn’t pay off all their debt. That was at $93 oil prices.
And they say that they will be fine at $60 oil prices? Are you kidding? People need to wake up. Capital costs, by the way, don’t begin to reflect all of their costs like overhead, debt service, taxes, or operating costs so the true situation is really a lot worse.
So, how do I see the shale landscape changing in the U.S. given the current oil price slump? It was pretty awful before the price slump, so it can only get worse. The real question is “when will people stop giving these companies money?” When the drilling slows down and production drops—which won’t happen until at least mid-2016—we will see the truth about the U.S. shale plays. They only work at high oil prices. Period.
Related: Low Prices Lead To Layoffs In The Oil Patch
OP: What, if any, effect will low oil prices have on the US oil exports debate?
Arthur Berman: The debate about U.S. oil exports is silly. We produce about 8.5 million barrels of crude oil per day. We import about 6.5 million barrels of crude oil per day although we have been importing less every year. That starts to change in 2015 and after 2018 our imports will start to rise again according to EIA. The same thing is true about domestic production. In 2014, we will see the greatest annual rate of increase in production. In 2015, the rate of increase starts to slow down and production will decline after 2019 again according to EIA.
Why would we want to export oil when we will probably never import less than 37 or 38 percent (5.8 million barrels per day) of our consumption? For money, of course!
Remember, all of the calls for export began when oil prices were high. WTI was around $100/barrel from February through mid-August of this year. Brent was $6 or $7 higher. WTI was lower than Brent because the shale players had over-produced oil, like they did earlier with gas, and lowered the domestic price.
U.S. refineries can’t handle the light oil and condensate from the shale plays so it has to be blended with heavier imported crudes and exported as refined products. Domestic producers could make more money faster if they could just export the light oil without going to all of the trouble to blend and refine it.
This, by the way, is the heart of the Keystone XL pipeline debate. We’re not planning to use the oil domestically but will blend that heavy oil with condensate from shale plays, refine it and export petroleum products. Keystone is about feedstock.
Would exporting unrefined light oil and condensate be good for the country? There may be some net economic benefit but it doesn’t seem smart for us to run through our domestic supply as fast as possible just so that some oil companies can make more money.
OP: In global terms, what do you think developing producer nations can learn from the US shale boom?
Arthur Berman: The biggest take-away about the U.S. shale boom for other countries is that prices have to be high and stay high for the plays to work. Another important message is that drilling can never stop once it begins because decline rates are high. Finally, no matter how big the play is, only about 10-15% of it—the core or sweet spot—has any chance of being commercial. If you don’t know how to identify the core early on, the play will probably fail.
Not all shale plays work. Only marine shales that are known oil source rocks seem to work based on empirical evidence from U.S. plays. Source rock quality and source maturity are the next big filter. Total organic carbon (TOC) has to be at least 2% by weight in a fairly thick sequence of shale. Vitrinite reflectance (Ro) needs to be 1.1 or higher.
If your shale doesn’t meet these threshold criteria, it probably won’t be commercial. Even if it does meet them, it may not work. There is a lot more uncertainty about shale plays than most people think.
OP: Given technological advances in both the onshore and offshore sectors which greatly increase production, how likely is it that oil will stay below $80 for years to come?
Arthur Berman: First of all, I’m not sure that the premise of the question is correct. Who said that technology is responsible for increasing production? Higher price has led to drilling more wells. That has increased production. It’s true that many of these wells were drilled using advances in technology like horizontal drilling and hydraulic fracturing but these weren’t free. Has the unit cost of a barrel of oil gas gone down in recent years? No, it has gone up. That’s why the price of oil is such a big deal right now.
Domestic oil prices were below about $30/barrel until 2004 and companies made enough money to stay in business. WTI averaged about $97/barrel from 2011 until August of 2014. That’s when we saw the tight oil boom. I would say that technology followed price and that price was the driver. Now that prices are low, all the technology in the world won’t stop falling production.
Many people think that the resurgence of U.S. oil production shows that Peak Oil was wrong. Peak oil doesn’t mean that we are running out of oil. It simply means that once conventional oil production begins to decline, future supply will have to come from more difficult sources that will be more expensive or of lower quality or both. This means production from deep water, shale and heavy oil. It seems to me that Peak Oil predictions are right on track.
Technology will not reduce the break-even price of oil. The cost of technology requires high oil prices. The companies involved in these plays never stop singing the praises of their increasing efficiency through technology—this has been a constant litany since about 2007—but we never see those improvements reflected in their financial statements. I don’t doubt that the companies learn and get better at things like drilling time but other costs must be increasing to explain the continued negative cash flow and high debt of most of these companies.
The price of oil will recover. Opinions that it will remain low for a long time do not take into account that all producers need about $100/barrel. The big exporting nations need this price to balance their fiscal budgets. The deep-water, shale and heavy oil producers need $100 oil to make a small profit on their expensive projects. If oil price stays at $80 or lower, only conventional producers will be able to stay in business by ignoring the cost of social overhead to support their regimes. If this happens, global supply will fall and the price will increase above $80/barrel. Only a global economic collapse would permit low oil prices to persist for very long. By James Stafford, Oilprice.com
The oil-price crash bedevils the markets. Companies react. Damage spreads in the US oil patch. Read… Oil-Price Plunge Triggers Layoffs in the US, Businesses Shutter
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Some predictions are for natural gas to go below $1 per million BTUs. There is no hedging for a price of $0.
“Only a global economic collapse would permit low oil prices to persist for very long.”
And where, exactly, do you think we are now?
The question of when people will stop throwing money at oil drillers is fairly simple, not for quite a while. The driving force is not the price of oil; it is the ZIRP created by the Federal Reserve.
The Fed’s ZIRP has virtually eliminated places to invest, so people throw money at whatever they can find, including oil. Look at the stock market. Even based on the dodgy earnings reports, the price level is outrageous. The Fed’s avowed goal is to create a manageable level of inflation, but the only place it has worked is in asset prices, and in things the Fed deliberately doesn’t measure like food and other necessities such as clothing and medical care.
I can’t prove it, but I have a theory that the real point to the ZIRP is to facilitate borrowings by the Federal Government. The aggressive use of tax avoidance by the wealthy and corporations combined with the decline in taxable wages for the majority of earners has pinched the Governments revenue stream. The solution has been to borrow. The catch is that they can’t afford the interest charges. What to do ? Well, suppose there were almost no interest payments. Welcome to the wonderful world of financial repression. If I am correct, don’t look for ZIRP to end any time soon.
Jungle Jim,
I must agree with you on the basis of ZIRP and the relationship to sovereign governments. If central bankers have a heart and soul, the thought of raising interest rates must keep them up at night.
With the exception of zerohedge, why is it that no one is making the connection between the oil price drop and the end of ‘open market operations’ by the FED, or bond buying at the end of oct 2014?
Bond- buying ends and the free money to prop up long oil trades (a very crowded trade indeed) evaporates. Yes, fundamentally it is demand that sets the price, but the free money handed out through bond purchases allowed the oil price to be artificially inflated.
-P.S– you know that you live in an Orwellian society when you never hear on CNN or Bloomberg or the WSJ for that matter that the drop is caused by weak demand. It’s just a vague litany of obfuscation concerning the Saudis not cutting production.
Johnson, here is my article, including my chart that got picked up by MarketWatch, on just this very topic, titled “Oil Price Crash Triggered by the Fed? Amazing Chart.” I posted it on December 21:
http://wolfstreet.com/2014/12/21/did-the-fed-trigger-the-oil-price-plunge-amazing-chart/
The Guardian reported today that Russia and Iraq are increasing production. Not sure what to make of that one.
This article sums up the situation we are facing as well as anything I have seen:
Keep Your Eyes On The Prize: It’s Always And Ever About Energy
At the essential center of the framework of the Crash Course is the almost insultingly simple idea that endless growth on a finite planet is an impossibility.
It is so simple it could be worked out by a clever 4 year-old. And yet it must not be so simple because the main narrative of every economy in every corner of the globe rests on the idea of endless, infinite growth.
Various rationalizations and mental dodges are made in people’s minds to accommodate the principle of endless growth. Some avoid thinking of it all together. Some think that perhaps we will escape into space, and continue our growthful ways on some other yet-to-be named planet(s). Most simply assume that some new wondrous technology will arise that can allow us to avoid pesky limits.
Whatever the rationalization, none stand up well to simple math and cold logic.
At the very heart of endless growth lies the matter of energy. To grow forever requires infinite amounts of energy. Growth and energy are linked in a causal way.
If you want mountains to grow higher you need tectonic forces to push them there. If you want a child to grow taller, food energy is absolutely required. If you want more people building more houses, driving more cars, and wearing more clothes, you need energy, energy and more energy.
Perhaps because long-term thinking is not one of humanity’s greatest gifts, very few can appreciate just how we’ve fashioned an entire economy and related set of belief systems around fossil fuel energy that has only been with us for a scant few hundred years.
Even more importantly, because we are consuming a few percent more of it with every passing year, 75% of all fossil fuel energy has been consumed in just the past 50 years. And we’ve been burning coal and drilling for oil for well over 150 years…boy, those stadiums fill up quick towards the end, don’t they?
The mistake is to think that those past 50 years are just the new normal and the even bigger mistake is to overlook the central and essential role of fossil fuel energy in creating the world we see around us.
Much more here http://www.zerohedge.com/news/2015-01-04/keep-your-eyes-prize-its-always-and-ever-about-energy
I guess it all depends on whose ox is getting gored. People have been worried about peak oil since the original Pennsylvania fields started to play out. From 1859-1915 or so oil was used primarily for lamp oil and lubrication. Until then lamp oil came from whaling, a costly dangerous venture. John D. Rockefeller did more to save the whales than Greenpeace. The Diesel engine (1898) burned cleaner and more efficiently than coal (50% vs. 18%) conquered Europe and later the US. The auto replaced the horse and manure in the streets, and provided a market for a pesky waste product: gasoline…my point is, AT THE TIME THESE THINGS WERE ALL IMPROVEMENTS. But there were nearly free markets then and sound money. People could dream and bring those dreams into reality. The problem is not that PEOPLE are not short sighted but they have become so encrusted with layers of bureaucracy and crony capitalists and thieving central banks that the vested interests throttle any new advancement in the cradle. Look at the storm of B.S. Tesla is fighting to get through. Or Tucker and DeLorean before him. To quote John Galt, “Get the Hell out our way!”
Great insight! I think that Russia and maybe Iran, Venezuela, Nigeria and Angola will indeed change their minds come next OPEC meeting in June and might decide to cut off oil production.
Arthur Berman is blatantly dissimulating when he says
“Faced with the painful choice of losing money maintaining current production at $60/barrel or taking 2 million barrels per day off the market and losing much more money—it’s an easy choice: take the path that is less painful. If there are secondary reasons like hurting U.S. tight oil producers or hurting Iran and Russia, that’s great, but it’s really just about the money.”
An easily provable false statement. A simple Google check shows that Saudi Arabian daily oil production is been estimated to be around 9.6 million barrels/day. Therefore, should Saudi Arabia have chosen to absorb today’s entire two million barrels/day surplus by itself and maintain market price levels, it would have seen the value of its exports drop by roughly 20%. Yet its refusal to do so has resulted in the price of oil halving. Consequently it would have been in Saudi Arabia’s own self interest to resign itself to continuing as the defacto OPEC swing producer – the very role that it has played over the past forty years. And let us not forget that the forgone production is not lost forever, but merely postponed to a later date. Thus Berman fails to offer any argument whatsoever against those voices who state the low oil prices represent an asymmetrical U.S. attack on Russia.
We’re headed for record low oil prices for the next hundred years like it or not. OPEC cannot stop it., Big Oil cannot stop it., Governments can’t stop it…Why?
Because the good ol’ USA now for the first time has confirmed we control most of the energey on this planet but more imporrtantly and this cannot be underscored., WE HAVE THE KNOW HOW TO ACCESS IT AT WILL. This meand the end of OPEC and all other oil producing enemies of the USA. We are top banana again and that’s a good thing….