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This Week In Energy: Depressed Oil Market Still Sees Production Gains

This Week In Energy: Depressed Oil Market Still Sees Production Gains

Second quarter earnings have largely reflected the depressed market conditions, with revenues down by significant margins across the board. From the oil majors on down to the small drillers, the second quarter of 2015 was a disappointing one. At the same time, oil drillers are still managing to post production gains, surprising energy analysts that have been predicting declines up until now. Part of the reason is the fact that projects have been in the pipeline for quite a while, coming to fruition only recently. That adds more capacity to company portfolios.

Still, oil companies are finding more and more ways to squeeze out efficiencies, such as drilling more wells per rig. Anadarko Petroleum (NYSE: APC), Devon Energy (NYSE: DVN), and Whiting Petroleum (NYSE: WLL) all reported impressive production figures, as drilling efficiencies allowed them to actually boost production, even in a depressed marketplace. Devon Energy reported that it succeeded in increasing production by 30 percent in the second quarter compared to the same quarter in 2014. Even more boldly, Pioneer Natural Resources (NYSE: PXD), on the back of its 10 percent gain in production in the second quarter, said that it is planning on adding two rigs per month between now and the end of 2015. Related: The Saudi Oil Price War Is Backfiring

The Permian Basin in West Texas remains one of the few bright spots compared to other shale basins in North America. Drilling there is still profitable, with low costs and existing infrastructure. A series of pipelines have come online in West Texas over the past year, eliminating the discount that Permian oil traded at compared to the WTI benchmark. The Wall Street Journal notes that RSP Permian (NYSE: RSPP), a Permian driller, successfully sold new equity, a sign that investors are still keen on drillers in the basin. RSP sought to raise funds to complete acquisitions and the company raised $157.5 million by selling new stock this week. There is a lot of speculation about when and to what extent lenders and equity investors will pull out of the shale sector, but RSP’s successful offering demonstrates that there is still an appetite for shale companies among investors.

Just in case you need some more evidence that the Permian is the place to be, ExxonMobil (NYSE: XOM) just announced the finalization of two deals to increase its exposure to the Permian. The deals include a farm-in agreement and an acquisition of acreage adjacent to positions held by XTO Energy (a subsidiary of Exxon) in Martin and Midland Counties. The two deals give the oil major the rights to 48,000 acres in the Permian. “The recent emergence of strong Lower Spraberry results, combined with the established Wolfcamp intervals, demonstrates the significant potential of the stacked pays in the Midland Basin core,” XTO’s President said in a statement.

While the impressive results and the confidence among a handful of stronger drillers bodes well for their share prices on an eventual rebound, the collective drilling efficiency is prolonging and exacerbating the oil glut. Oil prices have tanked yet again, with WTI now trading below $45 per barrel and Brent dropping below $50. There is little reason to feel confident that oil prices will rebound in the months ahead with U.S. oil production remaining steady. Related: Even The Saudis Need To Borrow To Survive Oil Price Slump

In order for the markets to balance, oil prices may have to remain at these low levels for several more months, forcing rigs out of the market and forcing stubborn drillers to make much more draconian cuts.

The short-term oil market outlook is one of abundance, but the longer-term picture is a little murkier. The oil majors are indeed making large cuts in order to bring their financials into balance. For much of the last year, many of them saw spending outstrip their cash flows, so they are now in the process of bringing that back into the black. However, cuts now put off projects later. During the last oil bust in the late 1990s, the oil majors made significant project cancellations that led to declining output for half a decade.

The oil majors risk doing the same thing this time around. But they are caught between a rock and a hard place given the fact that they need to prepare for several years of low oil prices, should that occur. But by cancelling large-scale deepwater, oil sands, or other multi-decade projects now, the oil majors run the risk of seeing their portfolios deteriorate in the interim. Related: Global Oil Supply More Fragile Than You Think

Political season is getting underway. The Republican Party held their first debate on August 6. Without a lot of variation between the candidates on energy, there is little to pay attention to at the moment. Canada held a much more relevant debate on the same night, with the ruling Conservative Party led by Prime Minister Stephen Harper seeking a fourth term. For now, it appears the left-leaning New Democratic Party holds a slight edge over Harper. The backdrop for the debate is a Canadian economy on the verge of a recession (likely having already unofficially entered one, although data has yet to confirm this), largely due to a collapse in commodity prices. The candidates also sparred over the failure of Harper’s government to secure a U.S. approval for the Keystone XL pipeline.

We are also a few months away from an election in Argentina, home to vast shale resources that have yet to be developed on a large-scale. The Vaca Muerta Shale has been the subject of much excitement, and oil majors ExxonMobil and Chevron (NYSE: CVX), among others, have invested in the shale basin. But investment is going to need to jump to a much higher level for the basin to reach its potential. Argentina’s state-owned oil company YPF SA (NYSE: YPF) estimates that the country needs $200 billion in investment to tap its shale reserves. A top YPF official said more joint ventures are not likely in the near term due to low oil prices and also the looming presidential election there. Current President Cristina Fernandez de Kirchner has supported shale development, but an incoming administration will likely be friendlier to international finance, potentially paving the way to more attractive investment terms and an overall friendlier business climate. In other words, Argentina has a lot of potential, but the pace of development will likely only proceed incrementally in the near-term.

By Evan Kelly of Oilprice.com

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