The title of the feature article in the latest Sierra Club magazine is “The End of Oil is Near.”
Since I’m an oilman and a Sierra Club member, I couldn’t wait to read how the oil industry is going to go kaput. I won’t go into details of how the writer came up with that eye-grabbing title, but let me say this: The article is long, sleep-inducing, and just plain wrong.
First and foremost is that the energy replacement for oil is not here yet. Even the most optimistic scenarios for the use of alternative energy still include oil and natural gas as the primary worldwide energy source for the next 30 years.
The writer correctly points out that the world’s oil and gas industry is going through tough times. Oil industry analysts are predicting 150 additional oil and gas companies will go bankrupt within the next 12 months. That sure sounds as if it’s curtains for the industry.
But it’s not, and here’s why. The pandemic has reduced overall demand for oil by 17 percent to 20 percent. That means instead of 90 million barrels of oil a day, the world only needs a little over 70 million barrels a day.
A few months back when the pandemic hit, the demand for oil dropped like a rock, and there was immediately a huge surplus on the market.
That drove the price down to below $0 and immediately caused the layoff of over 100,000 oil-related workers and the scaling back of countless billions of new oil and gas drilling |investments. The boom of American shale oil horizontal wells was over for the time being, and as rigs were stacked and drilling reduced, worldwide oil production began to drop.
OPEC, by reducing production, has brought the price back to above $35 per barrel (42 U.S. gallons), but most shale oil producers need oil to sell for at least $50 per barrel or they will lose money.
That’s why job losses and production decline will continue, and a company that depends on cash flow from new shale oil wells that aren’t going to be drilled won’t be able to pay its bank notes, and will declare bankruptcy.
Many shale oil wells have a first-year decline of over 40 percent, so in order for a company to keep production levels up and pay its bankers, it must drill. So while the price of oil is well below break-even, it is not going to drill, and the wells it has are going to steadily decline.
The pandemic, by reducing the demand for oil, has already removed millions of barrels from the market, and because thousands of these shale oil wells are approaching being uneconomical, they will never produce again, and millions of barrels more will leave the market.
The shale wells will return someday, when another boom roars through the oil patch.
Another boom? That’s not my wild dream. It is from Christyan Malek, head of Europe, Middle East and African Oil and Gas research for JPMorgan Chase. He said the oil market could be on the cusp of a “supercycle” that sends Brent crude (the components of the Brent Complex, a physically and financially traded oil market based around the North Sea of northwest Europe) skyrocketing to as high as $190 a barrel in 2025.
The rationale for higher oil prices is that as a virus vaccine stops the pandemic (probably near the end of 2021), the world will quickly ramp up travel, and demand will return.
Demand for business and pleasure travel may swell the need for oil to even higher than 90 million barrels of oil a day by the end of 2022. That will cause a rush to add oil production to the current 70 million barrels that will be on the market.
However, not all of those extra 15-20 million barrels of oil will be readily available, and when demand outstrips supply, the price of oil will rise.
Restoring the level of production to keep the oil market in balance will be difficult. It will take years for oil companies to bring their exploration budgets back to pre-pandemic levels, and years more to discover and bring more oil to the market.
The huge 80-mile-long Saudi Ghawar Field has been producing since the 1950s, and industry experts believe it can only make up a portion of the needed oil production.
The pandemic gave us a wounded oil industry along with a wounded travel industry, but while the travel industry can recover quickly, the oil industry is the opposite. It will take years, because banks aren’t going to be standing in line to get burned again after the shale fiascos, and most of the former small shale players are long gone.
That’s not all. Every oil exploration company in the world cut its budget drastically when the pandemic hit, and that means a corresponding reduction in new oil coming on line. That, when combined with the normal yearly decline of existing wells, means there will be less worldwide capacity to make up the demand.
In a few short years, we would need over 20 million barrels more of oil a day when compared to today’s worldwide production. Even with the Saudis and Russians cranking up, it would be hard to reach that level, and OPEC would be in control again.
A few years back a Saudi oil minister said, “I think $100 a barrel is a fair price for oil.”
Would an under-supplied oil market drive the price of oil to a price of $190 per barrel, which would drive the price of gasoline to $8-$10 a gallon?
Maybe. Hey, you Smackover independents producing five barrels of oil a day? Hang in there.
Email Richard Mason at richard@ gibraltarenergy.com .