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Editorial comment

Winter is coming; the nights are drawing in and the weather is worsening, at least in the Northern Hemisphere. The year is gradually drawing to a close, yet the price of crude oil still spends most of its time hovering around the mid-to-high US$40s, only occasionally spiking above US$50. The return to prices above US$60, which more optimistic estimates had promised would begin to occur around now, has yet to materialise.


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As the year progressed, it became increasingly obvious to many that this downturn was unlikely to disappear overnight. In fact, the problem of oversupply looks like it might be around for a while yet: Russia continues to produce oil at well over 10 million bpd, levels not seen since the Soviet era. In addition, OPEC has thus far steadfastly refused to cut production and move its targets downwards. The group has previously hinted that it would consider cutting production if other large producers, such as Russia, joined it in doing so,1 but this looks unlikely. Indeed, even if such a deal were agreed, it’s far from certain that revised targets would be adhered to, especially as OPEC Secretary General, Abdallah Salem el-Badri prefers to think of them as a “recommendation” rather than a production quota.2 Meanwhile US output, boosted over recent years by the meteoric rise of shale production, continues to average around 9.2 million bpd.

With this in mind, it is far from surprising that oil and gas companies are still tightening their belts and reining in costs. The US alone has seen over 86 000 jobs lost as a result of the price drop, and globally over US$200 billion of planned projects have been postponed or cancelled. The Financial Times goes so far as to state that “any new project requiring an oil price of more than US$60 a barrel, almost 50% below last year’s peak, is now either being scrapped or deferred until industry costs have come down sufficiently.”3

BP and Shell have both recently announced further, significant cost reductions. BP revealed that it plans to drop Capex to below US$20 billion (almost US$5 billion lower than at its peak) and will continue with its planned US$10 billion divestment programme. Shell’s CEO Ben van Beurden announced at the company’s recent ‘Management Day’ that the company is now “planning for a prolonged downturn” and is on track to cut Opex by 10% and Capex by 20%, which it says will recover US$11 billion.

According to some analysts, these kinds of actions, along with asset divestments and contract renegotiations are exactly what the industry needs, even if they do make for a bitter pill to swallow. During the years of US$100/bbl oil, average productivity actually declined: For example, the average number of staff employed to produce a barrel of oil doubled between 2004 and 2014.4 The hope is that the pressure from the low oil price will force oil and gas companies to become more dynamic and efficient, allowing them to take even greater advantage when the market returns to full strength.

Exactly when is the market likely to rebound then? The fact is that nobody seems to be entirely sure – even using all the available data, making predictions on the oil price is a tricky affair; one might almost be better off reading tealeaves. Based on current trends, however, the general consensus seems to be a cautious estimate of US$60/bbl as a baseline to be achieved in roughly two years.

Demand for oil and gas isn’t going to disappear any time soon, in fact the low price will likely drive demand growth upwards. Changes are also afoot on the production side: the US EIA predicts US oil production to fall to 8.9 million bpd in 2016, marking the first decline in US output since 2008. Per Magnus Nysveen, head of analysis at Rystad Energy, was quoted by CNN Money as saying, “This is very significant. If production continues falling by 100 000 bpd, then we think the balance between supply and demand can happen earlier.”5 It’s now fairly universally agreed that the industry won’t be emerging from the current downturn in the immediate future, but perhaps the beginning of the recovery is closer than we thought?

References

  1. http://www.wsj.com/articles/russian-oil-output-rises-to-post-soviet-high-in-september-1443777432
  2. http://www.forbes.com/sites/gauravsharma/2015/06/05/its-an-opec-recommendation-not-quota-says-secretary-general/
  3. Adams, C., ‘Oil Majors Ruthless On $60-A-Barrel Target’, Financial Times, 29 October, 2015. p. 21.
  4. Ibid.
  5. http://money.cnn.com/2015/10/06/investing/us-oil-production-declines-gas-prices

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