Nearly two years ago, British oil and gas supermajor BP Plc (NYS:BP) announced that the North Sea crude price Dated Brent, the company’s most important pricing benchmark, was experiencing “regular dislocations.”Back then, it was not uncommon for a handful of traders to sometimes hold as much as 40% of the world’s total crude supply in some months, allowing them immense power to manipulate the markets. Indeed, BP warned of trouble for both the gauge itself and Brent futures, a massive market used to not only hedge physical transactions but also to speculate.
Luckily, the inclusion of the United States' WTI Midland into the benchmark has vastly widened the pool of tradeable cargoes and made dated Brent more liquid and less susceptible to sudden price moves. The total supply of benchmark grades including Brent, Oseberg, Ekofisk, Forties, Troll and now WTI Midland has almost doubled, meaning that even though some traders are still able to build up large positions, the volume outside their control has increased dramatically.
“Falling supply has been the biggest problem for Brent, so the whole idea of the inclusion of WTI Midland was to increase liquidity and prevent squeeze in the Brent benchmark, ” Adi Imsirovic, director of consultant Surrey Clean Energy and a veteran trader, has told Bloomberg.
A good case in point of the important role U.S. crude is playing in stabilizing prices can be seen recently. About three weeks ago, a total of 12 bids were placed without finding any sellers. Despite this, prices of major North Sea grades hardly barged.
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The inclusion of WTI Midland into Brent also prevents North Sea producers from putting their own cargoes into so-called chains. Chains, usually the cheapest grades, allow a company with forward contracts to sell actual barrels of oil to another firm, providing a link between paper and physical markets. Since early May, WTI Midland has dominated chains, turning the tables on Forties thanks to the U.S. grade being cheaper despite its superior quality.
U.S. Shale Production Hits Record Highs
Another reason why U.S. crude will continue to dominate global markets is that supply has ramped up rather sharply.
Last year, oil prices hit multi-decade highs shortly after Russia invaded Ukraine, prompting the Biden administration to urge U.S. producers and OPEC to ramp up production at a faster clip so as to rein in spiraling oil prices. However, Saudi Arabia and its allies responded by doing the exact opposite, cutting production when oil prices started plummeting. Predictably, the United States and Europe were irked by the cartel’s defiance, with President Joe Biden’s administration accusing Saudi Arabia of colluding with Russia and supporting its war in Ukraine.
Well, President Biden can at least thank his lucky stars that the U.S. Shale Patch paid heed to his clarion call: the Energy Information Administration (EIA) has forecast total U.S. output will hit 12.61M bbl/day in the current year, eclipsing the previous record of 12.32M bbl/day set in 2019's and easily beating last year's 11.89M bbl/day. U.S. crude oil output is up 9% Y/Y blunting OPEC’s efforts to keep supplies low in a bid to goose prices.
There is little doubt the U.S. shale patch is doing its best to keep the market well supplied: Rystad Energy has estimated that whereas OPEC and its allies have announced cuts amounting to ~6% of 2022's production, non-OPEC supply has made up for two-thirds of those cuts, with the U.S. accounting for half of that.
Energy experts have generally been bearish about U.S. crude supply with many arguing it has already peaked, “The projection suggests the pace of US shale growth, one of the few sources of major new supply in recent year, is slowing despite oil prices hovering at around $90 a barrel, about double most domestic producers’ breakeven costs. If the trend continues, it would deprive the global market of additional barrels to help make up for OPEC+ production cuts and disruption to Russian supplies amid its invasion of Ukraine,” Bloomberg said.
Bloomberg cited comments by ConocoPhillips (NYSE: COP) CEO Ryan Lance that rising costs as well as limited supplies of labor and equipment were some of the problems that were hamstringing efforts by U.S. shale producers to quickly ramp up production. However, Bloomberg also noted that the biggest factor behind the slowdown is a change of the playbook by the majority of U.S. shale companies from focussing on growth and expansion to more capital discipline and returning more cash to shareholders.
Luckily for the shale patch, improving drilling and cost efficiency not only means they are able to squeeze more for less but they are also able to eke out a profit at much lower oil prices. According to J.P. Morgan, U.S. drilling and fracking costs have declined 36% since 2014, significantly lowering the breakeven points of many producers. For instance JPM points out that increased efficiency means EOG Resources (NYSE:EOG), for example, can earn as much from oil priced at $42/bbl today as it would have from $86/bbl oil in 2014; in contrast, Saudi Arabia reportedly requires ~$81/bbl oil to balance its books.
The U.S. shale revolution dramatically reshaped the world energy markets. The shale boom was one of the most impressive growth stories, from take off in 2008 to the Permian stealing the mantle from Saudi Arabia’s Ghawar as the world’s highest producing oilfield in a little over a decade.
Overall, Reuters has estimated that, “U.S. petroleum production is at least 10-11 million bpd higher than it would have been without horizontal drilling and hydraulic fracturing.’’
By Alex Kimani for Oilprice.com