Rystad Energy analysts comment on oil prices and US crude output

"A bearish cocktail of market events is really hitting prices hard this Friday, causing a steep drop that strips oil of a good part of it recent gains.

Prices have been inflated recently and for a good reason but they had reached so high - under a pandemic status quo – levels, that when the bearish news hit, they hit hard.

It’s not only that traders look to avert risk in the end of the week, it is also refinery outages that strip demand, a window to bring Iran and the US back to the negotiating table, and indications that OPEC+ is planning to increase its supply from April.

Oil production in Texas has seen significant volumes cut over the last days, but the net effect is surprisingly bearish.

Refinery shut-downs are larger volumetrically than oil supply losses, at least for some days. When refineries reduce processing crude that means demand is taking a hit, as for crude that is the immediate demand factor before the refined product reaches the retail market.

Production can fall as it may, but if refineries cut their processing capacity to an even larger extent, the imbalance naturally pushes prices lower.

WTI is correctly reacting negatively and the shape of the curve, with the return of a negative spot premium (so-called contango) also signals the net effect is marginally negative for prompt supply-demand balances.

Gasoline prices in the US continue to strengthen relative to crude oil prices, and the products markets can get an unexpected help in reducing the excess products inventories in the US – paving the way for potential very tight products markets later in the year.

Another bearish signal came from – who would expect – a possible breakthrough for smoothening relations between the US and Iran.

The White House yesterday opened the door for the start of a diplomatic roadmap with Iran. It said it would accept an invitation from the EU for a P5+1 meeting to discuss a diplomatic roadmap on Iran’s nuclear programme.

The market also reacts to the news, but likely only marginally, because the path to lifting US sanctions - which are holding 1.7 million bpd of Iranian oil production off the market - is still long.

Nevertheless, Iran is the single-largest upside supply risk for the oil market, after the OPEC+ spare capacity in terms of volumes. The 1.7 million bpd of shut-in capacity can likely come onstream in a matter of 6-9 months post the lifting of sanctions, if there is enough demand in the market.

So Iran is still a very important factor for oil markets, not only for the oil price formation but also because of the dilemma it would cause within OPEC, as the group already produces below what most of its members would ideally like to do.

Traders also rushed to correct price levels today as reports emerge that OPEC+ aims to open its production taps a bit more from April.

This is an expected development and justified by oil prices. For how long could the alliance – which has taken most of the market burden since the pandemic started – show restraint when everyone else benefits from the price levels it helped create?

OPEC members aim, and rightly so, to start enjoying the fruit of their efforts to bring healthy price levels back to the market, faster than even the most optimistic market observers would expect.

In fact the dip in price can dig in further when reports take an official character in the coming OPEC+ meeting. The elephant in the room is Saudi Arabia’s 1 million bpd extra cuts gift. If the gift is snatched back, prices cannot do else but decline."

Rystad Energy's Head of Shale Research, Artem Abramov, has commented on US oil production:

"What started as a modest colder-than-usual period in Texas has now turned into an unprecedented winter crisis for the US energy industry.

While this challenging environment is likely to persist in the next few days, we believe that the worst period is behind us. The industry is now preparing for a rapid recovery, while still evaluating the damage caused by the extreme weather and maintaining the safety of people and operations.

There is some talk that the current events could have a prolonged impact on statewide oil and gas production, however we need to remember that the US oil and gas industry has an exceptionally good track record for getting back up to speed quickly after extreme weather or market events – for instance after hurricanes or the Covid-related curtailments of 2020.

The air temperature in Midland, Texas has not risen above zero Celsius since 10 February and hit a multi-year low of -18C on the night of 14-15 February.

Permian producers and midstream companies were always willing to take the risk of potential water or liquid hydrocarbon freeze-offs, as the likelihood of such events was viewed as very low or negligible.

This resulted in a very different setup of a typical infrastructure project compared to northern states – for instance, low-pressure gathering pipelines are rarely buried into the ground in Texas as opposed to North Dakota or Wyoming.

This allowed Texas players to fast-track the infrastructure build-out during the previous Permian up-cycle in 2017–2019.

When it comes to flaring, the system managed well in the first days of the winter crisis (9–13 February), but since 14 February we have seen a material uptick in gas flaring for both upstream facilities and infrastructure objects.

Upstream flaring returned to the level seen in early February, when high flaring was driven by flowback start on several large Permian projects in areas with less developed gathering infrastructure, while infrastructure flaring reached levels not seen for many months.

It is unusual to see natural gas flaring from infrastructure facilities on the Gulf Coast reach a level comparable to upstream flaring.

Most of the uptick came from emergency refinery shutdowns accompanied by safety flaring, but a significant gas flaring increase in the past 4-5 days was also observed for some LNG terminals (more exposure on the Texas side of the Gulf Coast) and gas processing plants in West Texas.

We currently estimate that more than 2 million bpd of Permian oil production was offline on average in the past three days, but some volumes have already been restored.

Assuming the weather improved from next week, a rapid reactivation is anticipated throughout the final week of February and the first week of March.

Delayed activity will have a longer impact on production forecasts for February–April 2021, but similar to last year’s production curtailments, the downside for production today will result in stronger output tomorrow due to the shift in decline curves, occasional production flush events and a larger backlog of wells to be put on production in the future.

On an average monthly basis we estimate that the total winter crisis impact on Permian oil production will be close to 660 000 bpd in February and about 160 000 bpd in March, with the effect of delayed volumes resulting in the change of sign for the impact from April.

The nationwide impact (accounting for curtailments in the rest of Texas, Oklahoma and New Mexico) is 30–40% higher than for the Permian alone, but it is too early to come up with a final estimate for this number.

Having said that, Permian oil production will likely average just 3.7 million bpd in February – lower than 4.06 million bpd bottom recorded during the Covid-19 curtailments last year.

On the gas side, we are losing more than 1.8 billion ft3/d of Permian gas in February (average for the whole month) and we expect March output to be about 300 million ft3/d lower than our previous base case.

This means that Permian dry gas output, too, is sent to levels lower than the curtailment period bottom from 2020. Nationwide dry gas impact is currently estimated at 3.6 billion ft³/d for the Permian, with nearly all ex-Permian curtailments coming from Texas (central and northern areas)."

Read the article online at: https://www.oilfieldtechnology.com/special-reports/19022021/rystad-energy-analysts-comment-on-oil-prices-and-us-crude-output/