Active Rigs Rise

Jim Brown
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Despite the drop in crude prices to $75 the number of active oil rigs rose +10 last week to 1,578 after dropping to a three month low the prior week. I don't expect much change in the coming weeks.

Capital expenditure decisions are made months and years in advance. Rigs are scheduled, pipe ordered, infrastructure built, water secured, sand ordered, frac crews scheduled and on and on. You can't turn these events off just because of a blip in oil prices. I have reported on several companies that are cutting capex in 2015 by an average of 5% but that does not mean that on January 1st they are going to drop from 25 rigs in a basin to 20 rigs.

With an average of 9,100 new wells per quarter in the U.S. a 5% cutback would be -635 wells to 8,645. With 1,928 rigs in the field that means one third of the rigs would drill 1 less well per quarter. That is hardly an earth shaking decline. What it means is simply the pace of wells would slow rather than decline sharply. However, James Williams at WTRG Economics believes active rigs will decline to 1,500 by January. The North Dakota Mineral Resource Dept said active rigs may fall below 180, down from 191 in October, as drillers stop renewing contracts on their least efficient rigs.

If oil prices continued lower it would become uneconomic to drill some wells and the capex cuts would accelerate. Wells in the lower cost basins would accelerate and those in the high cost basins would decline. The Permian has drilling and production costs of around $30 per barrel according to GlobalData Ltd.

The most recent companies to announce capex cuts are Exxon, Shell, Conoco, Continental Resources, Apache, Energy XXI and Hess.

U.S. production surged +92,000 bpd last week to 9.06 mbpd and the highest production since 1986. The EIA said better completion programs and improving technology has pushed production per rig to record levels. In a report last week the EIA said the average initial production per rig in December will rise to a record 543 bpd in the Bakken and 550 bpd in the Eagle Ford. However, Murphy Oil said the Eagle Ford is the most expensive of their major oil plays at $43.50 per barrel.

The U.S. House passed a bill last week to approve the Keystone XL pipeline. The Senate is expected to follow suit in a political maneuver designed to save Senator Mary Landrieu's job. It is all going to die when President Obama vetoes it so it won't impact U.S. production in the near future. Eventually the pipeline will be approved. When completed it will ship 830,000 bpd from Canada to the Gulf of Mexico through Cushing Oklahoma. While some of that oil will be from Canada a lot of it will be from the Bakken. This oil is now being shipped from Canada and the Bakken by rail. Not approving the pipeline just means more pollution and congestion on the railroads plus the potential for major derailments in the years ahead.

There is no valid reason for not approving the pipeline. When it is completed it will add to our energy security because we will be less dependent on oil shipped by tanker from overseas. We still import nearly 7.0 mbpd so getting additional cheap oil from Canada is a security windfall. President Obama has delayed the approval for the last 6 years and he is set to delay it for 2 more. The Senate does not have enough votes to override a veto. It is possible they will have those votes in 2015 but it remains to be seen if they want to pick that fight.

Currently more than 225,000 bpd are shipped from Canada by rail. That is up from 54,000 bpd in early 2014. That is set to rise to more than 400,000 bpd in 2015. The oil is coming through whether the pipeline is built or not. The heavier Canadian crude replaces imports from Venezuela and the Middle East.

Enterprise Product Partners (EPD) is one of the two companies that received official approval from the Bureau of Industry and Security (BIS) to export condensate. The BIS has now directed companies to "self classify" condensate that has been processed as a refined fuel. This allows them to export without a license. More than 20 companies have requested approvals but the BIS is no longer sending approval letters. Export of condensate is now freely available without a specific approval. Jacob Dweck, a lawyer with Sutherland Asbill & Brennan said, "the BIS said processed condensate can be exported without a license. That is how the law works. Every time you see a 65 mph sign on the highway you don't have to pull over and ask an officer if you can drive 65."

The U.S. produces about 650,000 bpd of superlight crude with an API gravity above 50 (ranging from 45-75), which is actually lighter than gasoline. WTI has an API of 39. Condensate has more butane and propane in it and it evaporates at lower temperatures. Since a lot of the production from the Eagle Ford is condensate the producers there have created mini refineries with distillation towers where the condensate of heated to evaporate off the gases. With more than 20 companies planning on exporting condensate that should raise the price. Among other things, condensate is used to blend with heavier oils to make them easier to transport by pipeline. If the production from the Canadian oil sands is really going to expand to 3.5 mbpd it will require about 500,000 bpd of condensate for blending with the bitumen based crude oil for shipment by pipeline. Because the products produced from refining condensates are significantly different than crude oil the value of the condensates is less than oil but it really depends on where your condensates are produced and how close you are to a refinery that can use them as a feedstock or blending agent. An active export market is going to raise the price.

Saudi Arabia's oil minister, Ali al-Naimi, tried to end the speculation about an OPEC price war at a conference in Acapulco. He said the "talk of a price war is a sign of misunderstanding, deliberate of otherwise, and has no basis in reality. Saudi oil policy has remained constant for the past few decades and it has not changed today. We want stable oil markets and steady prices, because this is good for producers, consumers and investors." He said Saudi pricing takes into account a host of scientific and practical factors, including the state of the market, refinery margins and long term relationships with customer. Saudi Arabia does not set the oil price, the market sets the price."

The Kuwaiti oil minister said "OPEC will not cut its collective output at the November meeting. Kuwait has no plans to trim production," which is set to climb to 4.0 mbpd by 2020, up from 2.85 mbpd now. Analysts are split on whether OPEC will cut production. There are a wide range of sentiments but with Brent at $79 the desire to not cut production could easily be overcome by the sharp drop in export revenues.

Oil Inventories

Crude inventories fell -1.7 million barrels last week for the first decline in six weeks. U.S. production rose +91,000 bpd to 9.06 mbpd and crude imports rose +202,000 bpd. We are nearing the period in December where crude supplies decline to avoid yearend tax bills.

Gasoline inventories rose +1.8 million barrels after four weeks of declines. Imports declined -30,000 bpd and demand declined by -157,000 bpd.

Distillates fell 2.8 million barrels for the third weekly loss. This was the result of a surge in demand of +487,000 bpd. Somebody is driving somewhere. Imports were flat.

Refinery utilization also rose to 90.1% and very high for this time of year. Apparently refineries are taking advantage of the low crude prices to refine and export gasoline and diesel while the prices are still relatively higher.

The oil supplied to refiners rose to 15.75 mbpd and the highest level since mid September. This is a proxy for overall demand and suggests the low prices for refined fuels is increasing demand. The product supplied to the market rose to 19.84 mbpd and the second highest reading since Labor Day.

In the graphic below green represents a recent high and yellow a recent low.

Propane inventories rose +0.93 million barrels to 81.05 million. Demand decreased slightly from 1.27 mbpd to 1.17 mbpd. After the cold weather the last two weeks I would expect to see some rising demand numbers in the next couple of weeks.

Natural gas inventories rose +40 Bcf to 3,611 bcf. Inventories are still -6.2% below the five year average at 3,848 Bcf. We are still about 300 Bcf below where we need to be as we begin the heating season. I expect to see withdrawals from inventory over the next two weeks.

The blue line in the chart below shows the current inventory relative to the five year average.


The market ended the week at new highs on the Nasdaq and S&P. The Dow was off only slightly and the Russell 2000 was the weakest index. Events overseas this weekend have put a negative spin on the futures and this could set us up for some profit taking this week. Japan fell unexpectedly into recession with a -1.6% GDP compared to estimates for a rise of +2.2%. S&P futures are down -12 late Sunday.

Jim Brown

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