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Page added on May 21, 2015
5 scenarios for oil prices, including ‘meltdown’
The past year’s drop in crude oil prices will be fundamentally different from previous downturns.
What started in June 2014 with a growing imbalance between soft demand in Asia and robust North American shale-oil production seemed typical: Brent crude prices started to fall from $105 per barrel, the market went in contango in October, and expectations were high in anticipation of the late-November OPEC meeting as oil was hitting $75 per barrel.
The expectation was that things would revert quickly with a reduction of production quotas. The story went off script when OPEC announced it would not act, sending oil prices crashing below $50 per barrel.
Subsequent announcements by influential members of the cartel confirmed that pricing for crude oil would be based on free-market economics. That marked a fundamental shift from over 100 years of price-setting from the Seven Sisters and OPEC, which had governed periods of stability and steep price inflation. The rationale was lower-cost producers should not carry the burden of balancing the market with artificial production curtailments.
Lower, and more cyclical, crude prices are becoming the norm
As the industry breaks new ground, several factors will determine crude prices. On the demand side, uncertainties around the global recovery remain in the near term. The U.S. economy is still the driving force, but concerns about a softening Chinese economy and the possible impact of a Greek exit from the eurozone limit demand growth, largely in non-OECD countries.
On the supply side, a free-market approach favors cheaper crudes from the Middle East and puts pressure on costly developments such as Canadian oil sands, ultra-deepwater and the Arctic. Under this scenario, U.S. shale-oil production becomes a marginal producer with the role of balancing supply and demand. As a result, the industry is heading toward a structurally lower price point of $70-$75 per barrel, largely driven by the new-development costs of U.S. shale-oil assets and other conventional developments. This recovery should happen in 2016 as the oil and gas industry has dramatically scaled back its U.S. onshore drilling activity by more than 50%.
Coupled with a lower price point, higher cyclicality is also to be expected as shale plays can ramp up and down production in response to crude pricing in a matter of 12 to 24 months, leveraging relatively short investment cycles and a steep production decline curve.
Five scenarios for the long term
With the industry entering a new era, a few things are worth monitoring as external forces can affect crude prices. OPEC’s behavior is at the top of the list. Lower prices will hit several countries hard: Venezuela, Iran and Iraq all need at least $90 per barrel to balance their budgets and keep their fledgling economies afloat.
Pressure within OPEC and among major oil-producing countries to go back to the old system will be significant. Geopolitical developments can also change the supply landscape. Lifting the sanctions imposed on Iran, which holds the fourth-largest proven reserve of crude in the world, could unleash new supply. There is a long list of other hot spots to monitor for possible major discontinuities including Iraq, the South China Sea, Venezuela and Brazil. The overall economy is also a major factor to watch as it directly impacts the demand for crude oil. For example, a hard landing in China, which consumes more than 10% of worldwide oil production, would have a dramatic impact.
We summarize the permutations of these drivers in five scenarios (see figure). What we call the “New Normal” is the most likely scenario and current situation, where Saudi Arabia continues to pursue a market-share protection strategy and shale plays become the swing capacity. Plausible variations of this central scenario include “OPEC Is Back,” where OPEC regains its role as the price setter, and “Distressed,” where a global economic downturn creates an oversupply. Two extreme scenarios are deemed unstable: “Unaffordable” and “Meltdown,” where major supply or demand discontinuities send prices to extreme highs or lows.
Within the three plausible scenarios, the industry is likely to enter a new phase where lower oil prices alter the investment profile around the world, and the industry will need to become more agile to withstand accelerated cycles every 18 to 24 months.
15 Comments on "5 scenarios for oil prices, including ‘meltdown’"
Plantagenet on Thu, 21st May 2015 8:34 pm
Strange how no one even considers the possibility of a scenario where oil production in Saudi peaks, and global oil production goes into a long-term decline, causing oil shortages and much HIGHER prices.
That idea used to be central to the Peak Oil model—IMHO its still perfectly valid—-Saudi has to peak at some point!!!!
rdberg1957 on Thu, 21st May 2015 8:45 pm
What is good about this article is that the author is considering a range of scenarios. Considering that the author is talking about scenarios for the long-term, it is strange that there is no consideration of depletion in Russia, Saudi Arabia, and the shale oil developments which rise and fall quickly.
BobInget on Thu, 21st May 2015 9:15 pm
One of the United States’ biggest advocates of a controversial gas extraction technique known as fracking has hit out at Saudi Arabia’s plans to keep up bullishly high oil production levels despite a worldwide drop in prices.
Chris Faulkner, founder, president and chief executive of Texas-based Breitling Energy Corporation, warned Saudi Arabia is rapidly depleting its vast foreign currency reserves in an aggressive bid to retain its powerful share of the global oil market.
Despite crude oil falling below $54 a barrel for the first time in more than five years earlier this month, Saudi continues to produce almost 10 million barrels a day and has signalled it has no intention of changing its policy while it has upwards of $700 billion in its coffers.
In an interview with Arabian Business, Faulkner said: “Saudi Arabia’s social programs cannot be sustained at these oil prices. The kingdom needs upwards of $90 per barrel just to break even. How long will Saudi Arabians allow them to burn through all this money?”
He added: “There are a lot of dominoes falling the wrong way for Saudi. Is the country going to carry on depleting assets that took decades to amass, just to teach the world a lesson [that it will not give up its market share]?”
State-run oil company Saudi Aramco also announced plans in January to invest $7 billion on top of $3 billion earmarked last year to launch its own fracking operations, arguing the technique is crucial in helping it maintain its market share. Fracking describes the process of fracturing shale rocks in the ground, then injecting them with water, sand and chemicals at high pressure to release natural oil and gas inside.
But Faulkner told Arabian Business that Saudi Arabia’s persistent drive to increase production actually masks deep anxiety about what the future holds for a nation that generates up to 90 percent of its earnings from hydrocarbons.
“The reason they’re talking about fracking is because many of their wells are in their last phase of life.
“They are pumping saltwater, nitrogen, CO2 into these wells because the pressure’s so low and they can’t get the gas out of the ground without pushing all this liquid down there.
“They are trying desperately to suck out every last drop but it’s a tell-tale sign they have this level of concern. The oil won’t last forever.”
Read the full interview in the next issue of Arabian Business, published on Sunday.
Nony on Thu, 21st May 2015 9:40 pm
It was central to PO and is consistent with PO. Funny watching how people dance though. Rock taking credit for high prices as “POD” and then somehow saying dropped prices also indictate depletion. What a moron.
Nony on Thu, 21st May 2015 9:41 pm
sorry, cut last sentence or two.
Apneaman on Thu, 21st May 2015 9:47 pm
Alaska’s Famous ‘Ice Road’ Is Closed By Extreme Flooding
“Traffic along Alaska’s famous Dalton Highway has stalled at a time when hundreds of truckers would typically be transporting critical supplies to the state’s northern oil fields. The highway known as the Ice Road in the popular History channel series “Ice Road Truckers” is the only overland route to these lucrative operations, but the Alaska Department of Transportation & Public Facilities closed a stretch of the road Monday morning due to extreme flooding. The road is covered by up to 2 feet of water in places and the agency expects it will remain closed for four days to a week.”
http://www.ibtimes.com/alaskas-famous-ice-road-closed-extreme-flooding-1929482
Apneaman on Thu, 21st May 2015 10:06 pm
Nony, I know how you love the data and charts, so please take a look and see if you can spot the pattern.
http://i.imgur.com/Zb0LwzS.jpg
Nony on Thu, 21st May 2015 10:19 pm
Ape, no peaking. Just killing it! 🙂
shortonoil on Fri, 22nd May 2015 7:01 am
People who write articles seems to think that depletion is not a real phenomena. The 6th scenario would be that the value of oil to the economy is going down. It is, and in 2012 it reached a critical point:
http://www.thehillsgroup.org/depletion2_022.htm
The petroleum industry will find it ever more difficult to turn a profit. E&D will fall, and new field development will decline. As existing fields are pumped out there will be few new ones coming on line to replace them. Prices will fall as petroleum becomes less, and less capable of powering the economy. What OPEC, or anyone else does will become less, and less significant as the depletion process approaches its conclusion!
http://www.thehillsgroup.org/
Davy on Fri, 22nd May 2015 10:26 am
NOo, read this and weep
Millions of barrels of untapped oil that U.S. shale drillers discovered during the boom years are about to disappear from their inventories.
To read the entire article, go to http://bloom.bg/1F1oSIC
dave thompson on Fri, 22nd May 2015 10:34 am
http://brane-space.blogspot.com/2015/05/cheap-oil-turns-out-not-to-be-economic.html
james tipper on Fri, 22nd May 2015 1:11 pm
The USA possesses 2/3 of the world shale, where do these people imagine all of this mythical shale to come from?
Speculawyer on Fri, 22nd May 2015 6:55 pm
Why does it go from $100 to $140?
apneaman on Fri, 22nd May 2015 7:56 pm
Good catch Davy. Notice the story right after?
The U.S. Is About to Change the Way It Calculates GDP
http://www.bloomberg.com/news/articles/2015-05-22/gdp-changes-coming-in-july-as-u-s-addresses-weak-first-quarters
Moving the goal posts is all they got left.
– IEA Change the definition of Crude
– SEC change the definition of proved reserves.
– Change definition of who to count as unemployed
– Bank and corporate bail outs and non prosecution of criminal activities
– NINJA loans
– Years of QE & Zero interest
– Roll back of environmental regulations
– Catastrophic climate change went from 1 degree in 1990, to 2 degree and now that that’s blown people talking surviving 4 & 6 degrees – tell yourselves.
– Etc, etc
All of this would have seemed abhorrent even 30 years ago. The lengths we will go to keep pretending is absurd and the Nonys of the world cheerleading louder and louder as the hole gets deeper and deeper is both comical and pathetic.
Nony on Sat, 23rd May 2015 2:40 am
Davy, it is absolutely not news to me that lower prices will make reserves based on higher prices disappear. I have never disputed this. Things that are news to you are not to me.