Could Oil Prices Plummet A Second Time?

By Nick Cunningham, a Washington DC-based writer on energy and environmental issues. You can follow him on twitter at @nickcunningham1. Originally published at OilPrice

Are oil prices heading for a double dip?

The surge in shale production has produced a temporary glut in supplies causing oil prices to experience a massive bust. After tanking to a low of $44 per barrel in January, falling rig counts and enormous reductions in exploration budgets have fueled speculation that the market will correct sometime later this year.

However, there is a possibility that the recent rise to $51 for WTI and $60 for Brent may only be temporary. In fact, several trends are conspiring to force prices down for a second time.

Drillers are consciously deciding to delay the completion of their wells, holding off in hopes that oil prices will rebound, according to E&E’s EnergyWire. The decision to put well completions on hold could provide a critical boost to the ultimate profitability of many projects. Higher oil prices in the months ahead will provide companies with more money for each barrel sold. But also, with the bulk of a given shale well’s lifetime production coming within the first year or two, it becomes all the more important to bring a well online when oil prices are favorable. With prices still depressed – WTI is hovering just above $50 per barrel – drillers are waiting for sunnier days.

Yet another reason to wait is the possibility that costs for well completions will decline. Oil and gas companies often contract out well completions to third parties, and those companies will face pressure to cut their fees in order to keep business. That works in favor of producers who put their projects on hold for the time being. Well completions can make up as much as three-quarters of the total project cost.

Several prominent shale drillers have confirmed they are undertaking such a wait-and-see strategy. EOG Resources, one of the biggest Texas shale drillers, announced its plans in late February to hold off on completions. Chesapeake Energy and Continental Resources have now followed suit.

“We’re intentionally holding production back in 2015, because we believe it’s the prudent thing to do,” Doug Lawler, Chesapeake’s CEO, said in a conference call. Chesapeake has said it may delay completing as many as 100 wells. EOG has 200 wells awaiting completion, a backlog that will intentionally rise to about 350 this year.

As the industry clears out that queue of wells awaiting completion, a rush of new supplies could come online, pushing WTI prices down once again.

Even with well completions being suspended, supplies continue to build. The latest EIA data shows that oil stocks in the United States climbed to 434 million barrels, the highest levels in storage in over 80 years. “My gut feeling is that the oil price could see a double bottom,” Jason Kenney, an analyst with Banco Santaander SA said in a Bloomberg interview. “We’ve got too much inventory.” Bloomberg noted that Kenney has a good track record of predicting price swings in the past. Even though rig counts have declined significantly, output has so far proved resilient.

Finally, there is some evidence that the ability to move excess oil into storage may run into trouble if production does not decline. Storage tanks are starting to fill, raising the possibility that a glut could worsen. There is a great deal of uncertainty around how quickly this might happen. The EIA sought to clarify, noting that the markets have confused some of its storage figures – some oil supplies in the EIA’s weekly inventory data is actually sitting in pipelines and at well sites, meaning there is more storage capacity available than many news outlets had originally thought. An EIA analyst recently told Bloomberg that overall storage capacity is only at about 60 percent, and “[w]e still have a way to go before we can consider ourselves to be full,” Rob Merriam, EIA’s head of petroleum statistics said. It would take a few months of strong inventory builds to fill up the remaining storage, perhaps an unlikely scenario, especially if production starts to take a hit. But if storage tanks did start to fill up, prices would dive once again and companies would have to shut in wells and cut back on production.

Rig counts are at six year lows, forcing oil prices up on speculation that supply reductions will soon relieve the oil glut. But a double dip cannot be ruled out.

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  1. James

    I suspect that the build-up of inventory isn’t driven by a supply >> (end-user) demand dynamic.
    Oil futures are in heavy contargo, meaning that oil delivered in several months is more expensive than current (spot) oil. As such, there is a risk-free profit available to speculators who buy spot oil and store it for future delivery (provided the cost of storage is not too high). Consequently, there will be speculative demand for oil storage and a build-up in oil inventories.

  2. craazyman

    they definitely will if I roll big and long into DBO. I’ll let everybody know, as a public service. You guys might as well make some money for all the reading you do. Holy smokes.

  3. rjs

    in the 3rd week of February, crude oil production rose to another all time record high of 9,285,000 barrels a day, up from 9,280,000 barrels a day the previous week and up from 8,059,000 barrels a day during the third week of February last year…for that same week, crude oil inventories increased by 8.4 million barrels from last week’s 425.64 million barrels to 434.1 million barrels, the greatest level of inventories for any February in at least the 80 years
    recent weeks have had stories of Russia and Iraq with record production; this week it was the Saudis and Oman, with Saudi output the highest since 2013..

    1. dee preston

      You seem like a knowledgeable guy: perhaps you may know the answer to ONE question that I have always had: how much oil can be removed from the planet before it causes the earth irreversable harm? Never have I seen an article on that question and I would imagine the oil is IN the EaRTH for a reason—-besides theft and profit! Xo

      1. NoFreeWill

        It’s the CO2 generated by burning it and the environmental devestation caused by getting it out that is the problem. If there’s any geological damage from removal that matters I’d like to know about it too. But global warming is the much more serious problem imo…

      2. NOTaREALmerican

        Re: before it causes the earth irreversable harm

        You mean like “implosion” from all the air gaps in the voids previously filled with oil?

        Re: IN the EaRTH for a reason

        You mean besides holding up the ground above it?

      3. different clue

        I can’t think of any effect at all that pumping up all the oil would have on the mantle, the outer core or the inner core of the earth. Or even the deep crust. Any surface land that was being held up by subsurface oil would sink down (subsidence) as the supportive oil-pressure holding it up from below is removed. And as noted just below, the big threat to life on the surface is in burning the oil and skydumping the carbon.

  4. Rajesh

    There is, at present, a high demand to purchase Oil futures contracts by US shale oil producers (who are desperate and leveraged to the hilt). Their net short position in the futures market is increasing the contract price and leading to the Contango situation.

      1. Rajesh

        I dont know anything about the hedges expiring in March sorry. What i heard is that the only reason a lot of oil producers are able to keep their cos afloat is due to loan extensions and these lenders are asking for additional reassurances hence the demand…when the equity is practically wiped out the lenders call the shots.

  5. truthiness

    Don’t forget about offshore storage in VLCC’s and the like. Dayrates & utilization info shows that move has been on for at least one quarter.

    BTW, if you do the math (supply in storage/daily use), “awash in oil” means about ~25 day supply, or roughly 1/3 of the supply of catfood I currently have in my pantry.

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