• August 4, 2020

Pandemic, oil prices a deadly pair - Odessa American: Inthepipeline

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Pandemic, oil prices a deadly pair

Virtual hearing on proration is April 13

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Posted: Sunday, April 5, 2020 4:30 am

The scale and speed of the coronavirus pandemic is something that’s never been seen and it’s going to impact workers at all points on the economic ladder, Lisa Kennedy, managing principal and chief economist at Innopiphany, a management consulting firm in Los Angeles, said.

She added that this will be a huge economic contraction that impacts low-wage workers more than others. Additionally, the Permian Basin’s oil industry has been hit hard by a price war between Russia and Saudi Arabia.

“I’ve never seen anything like this,” Kennedy said of the virus in a phone interview. “I’ve never seen anything move this fast. In a matter of weeks, you go from a handful of cases to something that suddenly becomes an absolute crisis. I think the ability to test will certainly become important and people will certainly understand where we need to potentially be.”

Kennedy said not locking down fast enough and the lack of testing were two big mistakes.

There is a fear of the unknown at play, as well. Kennedy said she has been tracking COVID-19 since Dec. 31. Anytime she sees a mystery illness, she scrubs the web for anything she can find.

Estimates are that there are about 170,000 ventilators in the United States and about 14 ICU beds per 100,000 people. Kennedy said 320,000 ICU beds could be needed and ventilators are needed quickly.

Ray Perryman, president and CEO of The Perryman Group, said the COVID-19 outbreak caused economic disruptions which affected the demand for crude oil dramatically because of a “demand shock,” causing prices to begin to fall.

“The decision by the Saudi Arabian government to engage in what is essentially a price war with Russia then caused crude prices to fall again sharply, at least temporarily,” Perryman said. “Kuwait and the United Emirates also decided to go along.

“If the Saudis dramatically increase crude oil production as they have threatened, it will also cause a ‘supply shock’ to the oil market (it is already happening based on the threat) and the result is the price decline we have recently seen. It’s essentially a perfect storm, with a demand shock due to the virus added to a supply shock.”

However, Perryman said that neither Russia, because of inefficiencies in its production, nor Saudi Arabia, because of the social spending that is tied to oil production, can sustain these prices indefinitely; but it “remains to be seen when someone blinks.

“The U.S. may also be part of an agreement,” he said. “Until then, many firms in the U.S. industry and the supply chain will struggle, particularly smaller and mid-sized ones, as capital dries up and losses mount.

“While Russia appears to view the situation as a way to hurt U.S. shale producers, as they did a few years ago, that strategy is short-sighted. Production costs are falling dramatically in the U.S., particularly in the Permian Basin, and Russia cannot maintain prices at this level for an extended period.”

Perryman said that while these are very difficult times for some firms, their employees, their suppliers and the area, others will weather the storm and perhaps pick up assets. Banks with significant loan portfolios in the energy sector will also be strained.

“With that said, I don’t see the current situation as equivalent in any way to the 1980s,” he said. “Unlike during the ‘80s, the economy going into the virus situation was relatively strong and that essential strength will begin to return as soon as we are past the worst of the virus problems.

“With a return to economic health, we will see the demand for crude oil pick back up. Once the Russians and Saudi Arabians end this current pattern, which they have every incentive to do, the supply side problems should be somewhat alleviated.

“In other words, we are looking at a sharp and painful decline but not years and years of downturn as we did in the 1980s, when the economy was very weak and a tax-driven, overheated real estate market bubble burst, causing a financial crisis. In addition, oil reserves and production have been increasing dramatically recently, which is in sharp contrast to the 1980s when we appeared to exhausting the available oil and gas in the area.”

Perryman said global demand will rise in the future as emerging countries continue to develop their manufacturing capacity once the virus has dissipated a phenomenon that was not present in the ‘80s.

“There has been a complete revolution in the energy industry in the past three decades, primarily in the past 10 years or so, with technology, capacity, efficiency, demand and many other factors having fundamentally shifted,” he wrote. “The industry and the area will look very different (and better) this time around once the recovery gets underway.

“Recovery will be easier the more we can keep the essential structure in the Permian Basin in place and sustained through the next few months. The current prices are not sufficient to sustain the industry at present, despite dramatic cost reductions in recent years, and the near-term situation will likely be difficult.”

Perryman said there is a lot of uncertainty at present and the situation will certainly change. “We looked at the current state of knowledge in several hundred industries and put together a reasonable scenario of how the virus and the oil situation play out,” he said.

“On this basis, our preliminary estimates show a loss of about $7.5 billion in local output and 41,500 jobs across the Basin. Note that the jobs are measured as full-time equivalents, or ‘FTEs,’ so more individuals would be affected (Two people being out of work for 6 months is one FTE job).

“If we can help the workers affected and the businesses that are struggling remain viable through this period, we should see a relatively quick return to growth with building momentum.

“In the interim, an aggressive policy response to preserve the basic structure is needed at the local, state and national levels.”

Odessa oilman Kirk Edwards said the big difference between what’s happening now and the 1980s is because of the shale boom during the last six years, the Permian Basin has become the major drilling area in the United States and the world with more than 50 percent of the rigs running here.

Edwards said that is a blessing and curse.

“The business is a lot more concentrated today in the Permian Basin than it was in the 1980s. The great news about that is the Permian Basin has been benefiting from the roughly $4 billion of new wells being drilled every month in the Permian Basin, but the bad news with this virus and the downturn is all of that’s going to abruptly end just dramatically fast,” Edwards said.

Parsley Energy and Pioneer Natural Resources are asking for a demand hearing with Texas Railroad Commission. The reason everything is shutting down Edwards said, is the virus which has devastated the need for gas and jet fuel.

“… But in conjunction with that, Saudi Arabia and Russia are flooding the markets with their oil on the Gulf Coast. The producers that are here in the Permian Basin are now facing a situation where they can’t even get their oil out of the Permian Basin because the pipelines are full …,” Edwards said.

That is creating a “devastating double whammy” for Permian Basin producers, Edwards said.

Asked about layoffs and people losing their jobs, Edwards said assume the 400 drilling rigs running last month in the Permian Basin have 100 people associated with them — from the drilling crews to the service companies to the operating people. That’s 40,000 people employed just from the rig standpoint.

“And when a drilling rig goes down, they simply just lay off all the people and if you lay off 100 rigs, which we’ve lost 100 rigs just in the last week on the North American rig count and I can’t see how we won’t lay down every rig in the Permian Basin over the next six months, so that could be easily a loss of 30,000 to 40,000 jobs just here in the Permian Basin,” Edwards said. “And they’re high-paying jobs, too.”

As to how long this will last, Edwards said it will run as long as Saudi Arabia lets it last.

“They’re the ones doing it to us and we don’t know why, but they’re the ones that can answer that question. They’re the only ones that can answer that question, or until our Trump administration does something to protect the American energy industry and put some kind of tariff on their oil coming in, which would dramatically help salvage some part of our industry that’s here today,” he said.

If Texas and the refineries on the Gulf Coast need a certain amount of oil, Edwards said it doesn’t do any good for Texas producers to cut back 20 percent when Saudi Arabia will flood the market with an extra 20 percent.

“They’ll just take that and flood us even more, so again you have to something along the lines of proration with some kind of mechanism to (keep) Saudi Arabia from flooding the markets,” he said.

The Railroad Commission will have a virtual hearing on proration April 13. Proration applies across all companies at the same time to lower their output to keep everything in balance in Texas so there is no oversupply.

Edwards said this is the first time in about 30 years that testimony will be given on how proration can help the state.

“We just need it for 60 to 90 days until the virus is gone and people start driving and flying again. But until that time, it would be a fair system if everybody cut back the same percentage. If not, the bigger people are going to win and the smaller producers are just going to get smushed out,” he said.

Storage also is getting full along the pipelines.

“All the big tanks everybody sees around Midland …, those are full of oil and one of the places to put it is the Strategic Petroleum Reserve. But the Democrats in the (Families First Coronavirus Response Package) … put in language to not allow American producers to put any oil in the SPR. It’s in the bill, so that means the other outlet that we have to store oil in this country, the Democrats took away from us to get the package to pass,” Edwards said.

“Also, the American producer is not going to drill a well and produce it for $5 or $10 oil. They’ll shut it down until sometime (when) they hope and pray that the price will get back up to $20 or $30 again, so there’s going to be a lot of self proration going on right now, too,” he added.

Edwards said you might think people would sell their rigs or leases, but it happened too fast.

“… There’s just no buyers because nobody wants to buy a drilling rig that they can’t do anything with and then it will just sit and depreciate and rust, so it’s truly a tragic situation that the Saudis have put the American energy producer in right now,” he added.

He said he knows the Trump administration knows the energy producers’ plight.

“But it’s just really perturbing to Texans and American energy producers why President Trump will not do something for us and he still continues to defend Saudi Arabia over the American energy producer, but hopefully that will change soon,” Edwards said.

DAILY OIL PRICE: July 31

  • Crude Oil: 40.27   (+0.35).
  • Nymex MTD AVG:  40.7632.
  • Natural Gas: 1.799   (-0.030).
  • Gasoline: 1.1871   (-0.0333).
  • Spreads: September/October   (-0.30)   October/November   (-0.34).
  • Plains WTI Posting: 36.75   (+0.50).
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