The last barrel
While I’m no country/western dance expert, it appears the U.S. E&P industry is doing such a routine, taking one step forward, then two steps back. Although projections vary, operators and analysts are forecasting that booming production in the Permian, and other unconventional plays, will increase U.S. crude exports by 4 MMbpd in the next five years (step forward).
However, aging pipelines and tank farms, combined with antiquated export terminals, will limit the industry’s ability to fully exploit growing worldwide demand. This situation has forced U.S. producers to sell their product for $10/bbl less then international crude (step back). And, the escalating trade dispute between the U.S. and China threatens to dim the attractiveness of American supplies in China, the world’s biggest oil-importing nation (step back). In spite of these obstacles, the outlook for the U.S. oil industry is surprisingly bright, especially considering that WTI was selling for just $26/bbl in February 2016.
Surging U.S. supply. As tight oil production continues to grow, the U.S. is positioned to be a major player in the global crude market. With onshore Lower 48 output expected to exceed 11 MMbpd by 2023, the U.S. is poised to become the world’s largest oil producer, according to a study by Wood Mackenzie. Pioneer Natural Resources Chairman Scott Sheffield is even more optimistic: “The U.S. production should surpass 11 MMbpd within the next three to four months,” he said in an interview with CNNMoney. “We’ll be at 13 MMbpd very quickly, and that number could jump to 15 MMbpd within 7–8 years.” Sheffield said a sweet spot for oil prices would be around $60-to-$80/bbl. Higher prices would cause pain for consumers, especially U.S. drivers.
Impact on crude markets. However, questions remain about the impact that the increased production will have on crude markets. Wood Mackenzie’s Chief Economist Ed Rawle said, “The global crude landscape continues to shift, and U.S. exports are forecast to approach 4 MMbpd by the mid-2020s. However, with limited additional demand for these light, sweet crudes in the domestic refining system, future U.S. production will be pushed into export markets.” Without large-scale capital investment, the U.S. domestic market can absorb about a quarter of the additional 4 MMbpd expected to enter the market in 2023, leaving the rest for export. .
Pipeline capacity limiting factor. Production bottlenecks in the Permian are so pervasive that companies are pulling back on drilling activity. Pioneer’s Sheffield continued, “Permian pipelines probably will be totally full in three to four months, and some companies will have to shut-in production and move rigs away. However, some companies will be able to continue growing, because they have firm transportation contracts.” EOG also sounded the alarm, warning that smaller operators that haven’t already locked in pipeline space will soon feel the brunt. “Companies that were late to the table are going to struggle,” according to EOG’s Ezra Yacob. New companies are “not going to have a lot of leverage at the negotiating table.” Exxon Mobil is urgently taking steps to ensure it can transport its crude to far-away markets and signed a deal with Plains All American Pipeline to build a system that will handle 1 MMbopd.
To account for higher shipping costs, crude from Midland is selling for about $18 less per bbl, compared to Gulf Coast prices. For Occidental Petroleum, this discount has created a $350-million windfall, because the company controls about twice as much pipeline capacity than it requires to transport its crude to market. Oxy’s foresight has enabled it to fill the “extra” capacity with oil bought at a discount from rivals, then sell it in higher-priced markets in Houston and Corpus Christi for a significant profit.
DUC thermometer. The number of DUCs in the Permian surged to 3,203 in May, a 90% increase from a year earlier and the highest since the EIA began tracking them in 2013. So, in addition to a deficiency in pressure pumping equipment and experienced crews, the lack of transportation is also playing a major role in stranding capital in the region.
Know when to back-off! Since his election, I have been a steadfast supporter of President Trump, applauding virtually every decision and his America First initiative. However, Trump’s hard stance on tariffs is too rigid and threatens the world economy. The unrelenting pressure on global markets could trigger an economic collapse and lingering recession/depression.
The dispute has caused China to plan retaliatory tariffs on U.S. crude and threatens to erode the discount benefit of American supplies in the world’s biggest oil-importing nation. U.S. crude has been finding its way increasingly to Asia, as American supply is relatively cheaper compared to oil from other parts of the globe. The dispute could spur Chinese refiners to turn to Middle East suppliers and possibly Iran, just to spite the Trump administration. If the tariffs are implemented, “current flows of U.S. arbitrage crude to Asia could be affected, as it’ll be an extra cost that Chinese buyers will need to factor in when importing American supply,” said Den Syahril, an analyst at FGE, Singapore.
Self-regulation? In your dreams. In June, Denver-based Halcón Resources announced that it will idle 25% of its Delaware basin drilling fleet in July. The decision was driven primarily by lower oil prices in the Midland market stemming from the pipeline shortage. C&J Energy halted a planned expansion of its frac fleet in mid-June, in response to Permian bottlenecks. CEO Don Gawick said “explorers are not signing new fracing contracts.” Combined, these issues are “a pretty strong signal that the problem is real, and infrastructure is needed,” said Christine Ehlig-Economides, professor at University of Houston’s Cullen College of Engineering. And the dance continues. 
