When is 30-million barrels really 30 million barrels?

By Chris Faulkner, CEO, Breitling Energy Corporation 

9-2

2011 wasn’t one of OPEC’s better years.  In June, ministers from the 12-member Organization of Petroleum Exporting Countries (OPEC) convened in Vienna for their bi-annual get-together with the proposition of hiking the consortium’s oil production output — at that time running about 28.8 million barrels per day.  Saudi Arabia, Kuwait, Qatar, and the UAE wanted to crank production up to 30.3 million barrels.  Ironically, the meeting broke down when Iran and Venezuela pitched a fit, saying it could cause a “collapse” of prices.  The meeting adjourned with no agreement, and was dubbed as “OPEC’s worst in 20 years”. Oil shot up to $101 per barrel within a few minutes of adjournment.

Fast-forward to late November of the same year, to the second pow-wow-by-the-Danube.  This time, ministers emerged united, saying they were in agreement to re-allocate each member’s production quota to accommodate increased Libyan production.  Because of what they forecast as rising world demand, the new target would be 30.37 million barrels.  It was all smiles upon adjournment, as Brent dropped over three percent on the news, all the way down to $105.95.  Saudi prominence prevailed once again.

Now, fast-forward to mid-February 2015.  Not only did news come out that American production was continuing to climb, somehow it also leaked out that Saudi Arabia was cranking the valve open again, sending more oil to the world’s markets.  The move may have been intended to offset the recent 80 percent drop in Libyan output, mostly due to violence, but when word gets out that Saudi is raising production — for any reason – it’s enough to send traders running toward the nearest exit sign.

OPEC doesn’t disclose its production numbers.  Never has and probably never will.  It is highly speculated by those who study such things that OPEC collectively may really be putting out somewhere in the 32-million-barrel-per-day range.  Regardless of the actual number, one thing is clear: Saudi Arabia (not OPEC) intends to keep the pressure on and prices low, at least until “mission accomplished” – whatever that mission is.

No doubt, Saudi has its eye squarely on the Bakken.  North Dakota’s prolific production has rattled the once-dominant kingdom, and threatened their formerly unquestioned prestige.  While it has taken the combined shale zones – the Eagle Ford, Permian Basin, Niobrara, plus many more, to generate the 9.2 million barrels per day America is currently producing, it’s the Bakken that has become the poster child of boom.  The Bakken epitomized the “sizzle” of explosive growth from virtually nothing to 1.6 million barrels of delicious, light sweet crude every day.

Additionally, its no secret that geo-politics between Washington and Riyadh haven’t been the best these last six years, starting with the Arab spring and continuing with Mrs. Obama’s refusal to cover her head or wear black at King Abdullah’s funeral.

The turning point, though, appears to have been in those five months between June and November 2011 when Saudi Arabia, using whatever backroom tactics necessary, unified OPEC at unrealistic production numbers that didn’t make sense then, and still don’t today.  Yet, with U.S. output still increasing, and world demand decreasing, OPEC is staying stubbornly firm at 30.37 million barrels, or whatever the real number is.

The result is the “crashing price” that caused Venezuela and Iran to shudder in June 2011.

The Red Queen 

The big question consuming nearly every television interview and each new analyst report is, with so many rigs being laid idle, why are production numbers continuing to go up?  For one, the rigs that have been quickly sidelined are likely the less-efficient ones.  Cap-X spending cuts will take effect this year and into next, but slowing down what had been created over the last five years won’t happen on a dime.

There’s one factor that very few are discussing amidst all this pondering, however: decline curves.  As everyone in and around the industry knows, shale wells decline quickly, particularly after about their third year of production.  By then, producers had better have made their money and a big chunk of their profits.

Once the declines catch up with the drop in new production, U.S. output will go down.  It’s a dynamic that is on the horizon, but isn’t showing up in the weekly supply tallies yet.  Without new production going online, eventually output will suffer.  It’s akin to what Lewis Carroll wrote in Through the Looking Glass, when the Red Queen told Alice, “It takes all the running you can to stay in the same place”.

Obviously we haven’t hit that point yet, but somewhere out there, it exists.  And when it does finally arrive, the next concern will be whether it could tee-up a reverse boomerang effect, where if OPEC holds to 30 million barrels of production, and if the U.S. drops by some precipitous amount, could we be left in the lurch of a supply shortage?

Do the math, and time will tell.

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