Tuesday, December 6, 2016

Why U.S. Shale Producers Are The Biggest Winner From OPEC’s Oil Deal

‘Oil prices are truly on course for a recovery’: analyst


By Myra P. Saefong
MarketWatch
December 6, 2016

Major oil producers from around the globe managed to strike a deal to help the market find a balance between demand and a glut of supplies that has weighed on prices for more than two years.

So far, the oil market has cheered the agreement, but the true winner may be the U.S. shale-oil industry.

The Organization of the Petroleum Exporting Countries’ pledge to curb member production to no more than 32.5 million barrels a day, lifted crude prices CLF7, -0.66% LCOG7, -0.53% for three-straight sessions to tally a weekly gain of more than 11%, and on Monday oil extended those gains.

Key oil producers who aren’t members of OPEC, also agreed to cut back their output by 600,000 barrels a day, with Russia taking on half that reduction.

“The shale producers will be the ones who benefit” from the oil-producer deal and the likely rise in oil prices, said Charles Perry, chief executive officer of energy-consulting firm Perry Management.

“Shale drillers have good backlogs of undrilled but proven leases, and they can get rigs and other equipment quickly,” he said. “So even if OPEC cuts production for a limited period of time, the shale drillers can quickly jump in and drill some new wells.”

Horizontal drilling and hydraulic fracturing, or fracking, which involves using a mix of water, sand, and other additives to coax oil and gas from dense rock formations, has unlocked huge oil-and-gas deposits previously trapped in shale rock. Shale oil wells can be drilled in weeks, with no exploration risk.

Shale oil producers in the U.S. include EOG Resources Inc. EOG, +0.69% Devon Energy Corp.DVN, -0.23% and Whiting Petroleum Corp. WLL, +0.65% as well as Continental Resources Inc.CLR, -0.31% which is headed by Harold Hamm, seen as a possible pick by President-elect Donald Trump as Energy Secretary.

Action And Reaction


The OPEC production cuts are set to begin on Jan. 1 and the group will meet again in May to reassess the agreement and decide whether to extend the reductions.

Oil producers found more than enough incentive to reach a deal as prices for West Texas Intermediate crude futures suffered sharp losses in the last two years. By the end of 2015, settled below $40 a barrel—a more than 60% drop from the peak in 2014 of over $105 a barrel. WTI has now gained close to 40% year to date.



Against that backdrop, total oil production from seven major U.S. shale plays have fallen all year, but those declines have moderated in recent months. The Energy Information Administration forecast shale oil output down 20,000 barrels a day in December from a month earlier. The month-to-month decline for November was estimated at 30,000 barrels, and for October it was a decline of 61,000 barrels a day.

The EIA will issue its latest shale output update, with a forecast for January, on Dec. 12.

Perry attributed the declines in shale production in recent months, in part, to the “normal depletion decline of existing wells.” But if “new wells are drilled, these declines will change into oil production increases fairly rapidly.”

Michael Roomberg, a portfolio manager at Miller/Howard Investments DBBEX, +0.57% explained that “shale wells, like all oil wells, naturally become less productive over time, as the pressure in the formation is released, like the air from a balloon.”

And “that decline must be constantly offset by new well drilling, otherwise overall basin supply will decline,” he said. “So long as prices are insufficient to incentivize new drilling activity, supply will decline.”

But if oil producers stick to their agreement, prices for oil are expected to rise.

“Oil prices are truly on course for a recovery,” with Brent prices having reached a solid $54, backed by the first coordinated action by the OPEC members in 8 years, said Mihir Kapadia, chief executive officer and founder of Sun Global Investors. “It has definitely set a new price outlook for the commodity.” On Monday, Brent prices briefly topped $55 a barrel while those for WTI hit $52, marking levels not seen for those contracts in more than a year.

Part of the reason for OPEC’s reluctance to cut back on production has been concern over the loss of marketshare to non-OPEC producers such as the U.S.—specifically shale producers. OPEC’s agreement marked the first output cut in about 8 years.

“While some say OPEC has succeeded in its goal of limiting high-cost production, I tend to think they’ve sown the seeds of their own demise,” said Troy Vincent, oil analyst at ClipperData. “Production costs in the U.S. have roughly halved during the downturn in prices caused by Saudi Arabia’s turn to market share maximization, as companies focused on innovation and efficiency.”

“This sets a good foundation for the next leg up in U.S. production,” he said.

U.S. offshore oil output, however, isn’t likely to benefit as much as shale production, analysts said. Offshore wells involve a degree of exploration risk and logistical difficulties, given that they’re often drilled in deep water.

Offshore producers “have especially big lead times to drill wells, so it will take them a particularly long period to be able to get mobilized to drill new off shore wells,” said Perry.


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