Global crude disruptions stir bulls in an eager market

By Nathanial Gronewold | 05/20/2016 08:00 AM EDT

HOUSTON — The bulls are stirring again, but some think they may be getting ahead of themselves.

HOUSTON — The bulls are stirring again, but some think they may be getting ahead of themselves.

The markets hardly responded last week to the prospect that 3 million barrels of production could be taken offline because of wildfires in Canada, unrest in the Niger River Delta of Nigeria and Libya’s civil war.

But traders seemed to wake up Monday, after a Goldman Sachs report on last week’s outages prompted the bank to call for tighter crude supplies globally. That sent Brent crude oil futures contracts north toward $50 per barrel.


Temporary as it may be, drilling contractors are growing more optimistic that the geopolitical upheavals and the summer driving season will lead to a crude price spike big enough to shake the oil and gas industry out of its slumber. It would get operators out drilling again, a scenario that could get another jolt if political tensions in Venezuela spiral out of control and threaten that nation’s 2.7 million barrels a day of production. Once again, the unstable members of the Organization of the Petroleum Exporting Countries (OPEC) have the commodities markets’ attention.

Ongoing problems in the Canadian oil sands could see that source staying offline for longer. Reports of an early restoration of major oil sands projects proved premature as the fire raged on this week.

The supply disruptions and falling oil production have led some to declare that the bottom of the price collapse is in sight.

"We are right at the beginning of a multi-year cyclical upswing," said Marshall Adkins, managing director at Raymond James and Associates. "It looks stupidly bullish for crude."

Adkins’ comments brought relief to attendees at a conference here yesterday hosted by the International Association of Drilling Contractors (IADC). Others echoed Adkins’ views. Some are bold enough to suggest that the active rig count may return to 1,000 within 12 to 16 months, if the oil industry has indeed arrived at the bottom of the bust.

Crude prices broke through a $45-per-barrel barrier this week and seemed on track to break $50 per barrel before falling back again.

The collapse in the price of crude has hit drilling contractors hard. Averaging more than 1,700 land rigs in operation in 2014, drillers now have work for a little more than 350 rigs.

Kathy Willingham, a vice president at Cactus Drilling LLC, testified to the severity of this downturn. Willingham described a "very tough" cycle of layoffs that has shrunk her company, which once employed more than 2,000, to 580 employees today.

Drilling contractors want to believe the end to their pain is near. Given the steady climb of crude prices back to $50 a barrel and the disruptions to supplies from international events, observers offered hope at the outset of the IADC gathering.

James West, managing director at Evercore ISI, argued that it’s unlikely that oil and gas companies will cut spending for a third year in a row, promising a bright 2017 for drilling contractors. Two years straight of capital expenditure cuts for the industry is already unprecedented. West said the market is priming for a rebound and resurgence of new drilling.

"These guys are going to spend like drunken sailors again," West said, speaking of the large exploration and production (E&P) companies.

So far there is little indication of this.

Oil field service companies are reporting that spending by E&Ps is lower so far this year than their earlier guidance to investors suggested.

Trey Cowan, an analyst at RigData, confirmed this, presenting data that showed capital spending at $300 million below previous 2016 forecasts across 22 major oil companies. The quick dip below $30 per barrel in February seems to have spurred the additional belt tightening.

Adkins acknowledged that the financial analysts on Wall Street were "extremely bearish," but he dismissed the pessimism, pointing to the growth in gasoline demand last year, a phenomenon that should repeat itself this summer, he argued.

He also sees the pullback in drilling as having been too steep, threatening the future supply-demand balance as summer in the Northern Hemisphere approaches. "We way overcorrected to the downside," Adkins said.

Talk at the conference turned to what many see as an inevitable return to 1,000 rigs operating by the end of 2017, as oil returns to $65 or $70 per barrel. Those are good prices for companies that have become leaner and more efficient, able to produce crude at lower oil prices.

RigData’s Cowan threw cold water on many of the upbeat prognostications.

He said the budget projections for major E&Ps does not support a quick rebound. RigData’s forecast sees the active land rig rate averaging 379 rigs in 2017. Cowan emphasized the confusion and uncertainty over where the industry is headed, but he pointed to indicators suggesting that things will likely get worse before they get better.

"In the short run, there’s a good chance that oil prices will move lower," Cowan explained.

Chaos in Nigeria’s oil patch, in Venezuela and prolonged outages at Canadian oil sands operations will support higher oil prices. A strong draw in U.S. crude stockpiles and overseas will lend support to the bulls.

Still, oil volumes in storage are still high. International economists are also calling for weaker-than-normal global economic growth this year. Oil demand is seen as rising only modestly. Analysts are also calling for a strengthening of the value of the U.S. dollar, a bearish force on oil prices.

It will also be important to note how markets react when officials at the U.S. Federal Reserve raise interest rates, as they promise to do sometime this year.