Oil Prices To Remain Subdued For Much Of 2016

In the latest edition of the Numbers Report, we’ll take a look at some of the most interesting figures put out this week in the energy sector. Each week we’ll dig into some data and provide a bit of explanation on what drives the numbers.

Let’s take a look.

1. U.S. repeals oil export ban

- As part of a last-minute funding deal, the U.S. Congress lifted the ban on oil exports. The repeal was a top priority for oil producers.
- The EIA concludes that the repeal will have little effect through 2025 if U.S. oil production stays below 10.6 million barrels per day. If, however, production rises to 12 mb/d, then the ability to export will allow U.S. drillers to add around 0.5 mb/d in production.
- Of course, there is a wide degree of uncertainty with these projections. Higher global oil prices, for example, would make the ability to export much more important.
- For now, there won’t be a flood of exports from the U.S. In the waning days of 2015, for example, WTI and Brent traded at parity. Absent a premium for Brent, U.S. producers may not be able to send much oil abroad for a profit at this point.

2. Winter heating off to historically slow start

- An El Nino weather pattern has led to warm weather washing over the eastern seaboard. New York City posted a record high temperature on Christmas Eve.
- As a result, demand for winter heating has been extremely weak. Heating demand is sharply lower than last year, and also well below the long-term average. That has contributed to the crash in natural gas prices below $2/MMBtu.
- Only a severe bout of cold weather will get this winter back to the average.
- This raises the possibility of lower withdrawals of natural gas this winter. Inventories are already historically high. That could set up natural gas markets for a pretty pessimistic outlook for 2016.
- That is bad news for natural gas companies like Chesapeake Energy (NYSE: CHK), under extreme pressure from plunging revenues.

3. Shrinking hedges expose natural gas drillers

- Plummeting natural gas prices has already destroyed the share prices of major natural gas producers, but things could get worse in 2016.
- Hedging positions are expiring, exposing companies to drastically lower prices than they were earning on their hedges. About 21 percent of natural gas production was hedged for all companies in 2015. That is set to fall to 12 percent in 2016.
- The situation is worse for speculate-grade companies, which use hedging more.
- "Given the steep decline in hedges and Standard & Poor's current price deck assumptions of $50/bbl for [West Texas Intermediate crude oil] in 2016 [$3/MMBtu Henry Hub], we expect an average decline of roughly 17% in funds from operations for all E&P companies rated 'BB+' to 'B+' and a 30% decline for all E&P companies rated 'B' and below," S&P wrote in mid-December.
- "We expect more traditional defaults in 2016 because we think access to capital markets for many E&P companies could be severely limited as the currently low commodity prices persist."

4. Cost of producing oil declined in 2015

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- The price of oil is ultimately determined by the cost of production, and more specifically, the cost of producing the marginal barrel of crude.
- There has been a lot of discussion about how oil drillers have succeeded in substantially reducing costs. But these savings must be put in context.
- Costs have risen steadily over the past 15 years, except in the year following the financial crisis, and the downturn in 2015. Today’s marginal costs are still higher than they were in 2011, despite the much-publicized cost savings achieved recently. Costs are also 2 times higher than they were in 2000.
- A growing share of global oil production comes from high-cost areas, such as shale. As depletion of low-cost oil continues, the world will depend more and more on higher cost oil. But technology can keep costs in check.
- OPEC sees oil prices rising moderately to $80 per barrel by 2020 and $95 per barrel in 2040.
- But OPEC also believes that the world must invest $10 trillion through 2040 to keep prices that low. Non-OPEC countries will need to invest $250 billion annually.

5. Investors burned by commodity bust

- Everyone knows that oil prices – and the prices of other commodities – must turn around at some point. But investors hoping to call the bottom have thus far been burned.
- A record $8.9 billion flowed into energy funds in 2015, according to Bloomberg, the largest increase in nearly 10 years.
- But crude prices continued to sink even as investors bet on a rebound.
- The Bloomberg Commodity Index, which tracks 22 key commodities, lost 25 percent in 2015. Meanwhile, the S&P was flat.
- Other commodities outside of energy have seen major capital outflows.

6. E&Ps writing down assets

- Collectively, the oil and gas industry took $60 billion in impairment charges in the third quarter.
- For 2015, the industry wrote off an estimated $134 billion in assets due to falling oil and natural gas prices. In fact, natural gas asset write-downs were just as significant as those for oil. Spot gas prices are below $2 per million Btu, a level that is unprofitable to produce for many companies.
- EOG Resources (NYSE: EOG), widely considered one of the best managed shale players in Texas, posted some of the eye-watering write-downs: $6.3 billion.
- The write-downs are hugely negative for an industry that paid a lot of money during the boom times to acquire expensive assets.

7. Job losses mount across oil industry

- Not surprisingly, layoffs are piling up across the oil and gas industry. Calgary, Canada’s oil capital, lost over 40,000 jobs alone, causing the region’s unemployment rate to spike.
- Canada could see 100,000 job losses in 2015.
- The U.S. has seen the loss of 70,000 jobs over the past year.
- Worldwide, about 233,000 layoffs have hit the industry.
- With additional capex cuts forthcoming, more jobs will be cut in the coming months.

That’s it for this week’s Numbers Report. Thanks for reading, and we’ll see you next week.