U.S. Shale and the OPEC Deal – 10/19/16

When oil prices plummeted in 2014 due to a global glut of crude oil, many expected U.S. shale producers would collapse quickly. Those producers had other plans in mind.

Though the glut resulted in a wave of bankruptcies, companies working against or through chapter 11 pumped more efficiently and post-bankruptcy assets can operate sans debt burdens. All in all, total U.S. oil production has only fallen by about 535,000 barrels a day so far this year. Goldman Sachs estimates a return of 600,000 to 700,000 barrels of oil a day by the end of next year, for comparison.

And if members of OPEC manage to strike a deal to cut oil production, U.S. producers have demonstrated their flexibility is greater than most when it comes to bringing new production online.

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Shale operators are still hurt by low prices, but producers with strong balance sheets like EOG Resources Inc. and Continental Resources Inc. may be able to generate enough money to pay for increased production even at low prices. Because older oil fields decline by 5% a year and global demand is still rising such companies are still getting interest from investors. And those with capital to spare can buy productive assets at fire sale prices from the more over-extended companies.

Still, the U.S. companies will need oil to hold above $50 a barrel for months before they commit to more spending, according to analysts from S&P Global Platts. To reach that threshold, OPEC planned deal to cut output would have to make a significant improvement in crude prices, which have held steady around $50 even at the best of times in 2016.

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But remains to be seen if OPEC can enforce the new restrictions when Saudi Arabia has to make for Iran, Nigeria, and Libya demanding room to grow, as well as Russia’s historical unreliability when it comes to output deals.

For now, U.S. companies are using the price rally caused by the talk of a deal to hedge their price risk for next year and lock in future cash flows. Rigs targeting crude in the U.S. also rose to their highest level since February, Baker Hughes Inc.

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