Oil and gas outlook: Sinking deeper

By Kasia Patel
Published: Friday, 29 July 2016

Some oil and gas industry participants have pointed to the recent uptick in oil prices and rig count as signs of a recovery, however, DW has predicted a turnaround is unlikely before 2018.

 oil rig jerry and pat donaho
Additional onshore and offshore oil and gas supply is expected to come online in 2017 and hinder an oil price recovery (Source: Jerry and Pat Donaho)

A turnaround in oil and gas industry investments is unlikely to materialise before 2018, according to the latest data from research and consultancy firm Douglas-Westwood (DW), as demand growth over the next year is likely to be outweighed by supply growth.

This month, the US rig count slumped to its lowest levels since records began, and onshore drilling – a major end market for industrial minerals like silica (frac) sand, barite (barytes) and bentonite – has been the hardest hit.

Onshore activity fell 30% in 2015 and a further 20% in 2016 with rig count dropping to a low of 417.

In a recent webcast discussing DW’s world drilling and production figures for Q2, DW director Steve Robertson said that the near term outlook for oil prices is not a positive one.

"There is significant additional oil coming online and gas is also expected to have production growth," Robertson said. "When oil prices pick up, what’s left there to reach the demand? 350,000 people have lost their jobs. E&P companies are now focused on free cash flow driving cuts but this is all brewing for a big problem towards the end of the decade."

In both onshore and offshore drilling, the industry has seen a 45% reduction globally since 2014. "It’s not just a downturn localised in America, we’ve seen the hit in China as well," Matt Cook, the author of DW’s World Drilling and Production Market Forecast, outlined.

Outages in Canadian and Nigerian oil production have helped to rally oil prices from record lows, while output reductions in US shale as a result of bankruptcies and capex cuts point to an anticipated decline in onshore oil production for the first time in seven years.

"In 2016 onshore activity will decline for the first time since 2009. But in 2009 there was a strategic output cut versus now when we are seeing production cut due to bankruptcies and capex reductions," Cook added.

However, despite supply coming offline and the recent oil price rally in 2016, Cook says 2017 represents a major threat rather than a potential turn around for oil price recovery.

"DW predicts offshore oil output will increase 1.8m barrels per day (bbl/d) in 2017 as a result of the implementation of projects sanctioned before the downturn," Cook said. "This will probably lead to an increase in the oversupply and suppression of oil prices." He added that deepwater drilling is not expected to recover significantly until the 2020s.

Over the next year, DW expects large gains in the US and Middle East particularly in offshore products will be a key threat to oil prices and limit any growth in the sector, Cook said. In onshore production, gas output is expected to increase everywhere apart from Europe, growing twice as fast as oil supply.

"2019 might see some kind of equilibrium as offshore additions peak," he conceded, but it might be some time before the market sufficiently recovers.

When questioned on the effect that Brexit might have on oil and gas prices, Cook was not optimistic: "Even just thinking about leaving the EU – the oil prices were wavering before the referendum was held."

Matt cook DW oil and gas consultants Q2 WEBCAST
Matt Cook and Steven Robertson of DW discuss oil and gas outlook in the company's Q2 drilling update (Source: DW)
"In terms of the UK sector itself, Brexit could mean some wage increases," he added. "Pump prices are going to go up, particularly for diesel if the pound is weaker, when it comes in at petrol stations. There has been a lot of concern about regulations in terms of operators investing in new projects, which is something the UK has struggled with over the years anyway since the production peak and unfortunately this could have quite a negative impact."

In the long term, DW has predicted a potential supply crunch looming in 2020, as cuts in current investment are likely to have a big impact on production towards the end of the decade.

"Excess oil supply will erode and we will not have new projects in the pipeline to overcome production decline from existing field," DW outlined during its webcast, adding that much of the 350,000 industry job losses are likely to be lost to the industry forever, while the equipment that has been idled will deteriorate as it is not used.

Onshore production outlook

According to Cook, US shale oil drilling is unlikely to return to pre-downturn levels until well into 2020s. Activity in China is also anticipated at lower levels than previously predicted owing to a suspension of polymer flooding, although onshore drilling in the Middle East – which is already at record levels – will continue to steadily increase.

It is the Middle East then that will drive an increase in global production in the mid-term, while a resurgence in the US in the long term will drive increases in oil output.

Latin American production of onshore oil meanwhile is expected to suffer owing to reserve issues in Colombia and financial difficulties in Venezuela, Cook said. The biggest production gains between 2016 and 2020 are expected from Canada, from its various oil sands projects; Iran, following the lifting of sanctions; Iraq, from the Integrated South Project, and from Saudi Arabia's Khurais and Shaybah oil fields.

With onshore gas, although drilling this year is anticipated at just 17% levels seen in the 2006 drilling peak, DW anticipates that 1% more wells will be drilled in 2016-22 than in the previous seven year period, with increased activity expected in East Siberia for the Russia-China supply deal. Interest in China's shale sector is also gaining momentum on the back of interest from international players.

Hanging on a rig count

DW’s predictions of a potential uptick in oil and gas next year only to be followed by another crash are no doubt unwelcome news to oilfield mineral and services suppliers.

This week a number of major industrial mineral producers announced second quarter results. While almost every sector has, in some shape or form, been affected by the oil and gas downturn, those directly supplying to the sector have reported deeper losses.

Carbo Ceramics Inc., Halliburton Corp. and Baker Hughes Inc. all reported net losses for the last quarter.

Baker Hughes cut around 3,000 additional jobs in Q2, taking its 18-month total to 26,000 job cuts, predicting that there would not be any meaningful improvements in the second half of the year as oil and gas activity is forecast to continue its decline internationally.

While some companies have latched on to recent oil price improvements as an indication of market turnaround, Baker Hughes anticipates that industry participants will wait for a more sustained oil price uptick before committing to any new investments.

Halliburton CEO, Dave Lesar, however pointed to a recent increase in rig counts as an indicator that the market "has turned", noting in the company’s financial results last week that the 78% drop in rig count from 2014 levels had finally reached a floor.

"We believe the North America market has turned," the company’s CEO, Dave Lesar, said. "We expect to see a modest uptick in rig count during the second half of the year. With our growth in market share during the downturn, we believe we are best-positioned to benefit from any recovery, including a modest one."

Despite OPEC's strategy of maintaining crude supply, oil prices have recently rallied back to $50/bbl, initiating a slight rebound in the North American rig count – which had previously been declining with oil prices hovering around $47/bbl.

The higher rig count, has no doubt encouraged E&P firms that have until now held off on production to start pumping oil again, as Thomas O’Donnell, senior energy analyst at consultancy Wikistrat, told CNN Money: "You can get a herd mentality. Nobody wants to be the last one back."

Although this may be good news for oilfield suppliers in the short term, increased activity echoes DW’s mid-term outlook and warning for the next year: additional new production remains a key threat to an oil price recovery.

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