Global Oil Supply Crunch is just months away

[dan_s]

From the Wall Street Journal
As Oil Industry Recovers From a Glut, a Supply Crunch Might Be Looming
Dearth of investments in oil projects mean a spike in prices above $100 could be on the horizon
By Sarah Kent and Georgi Kantchev
July 28, 2018 7:00 a.m. ET

Crude oil across the globe is being used up faster than it is being replaced, raising the prospect of even higher oil prices in the coming years.

The world isn’t running out of oil. Rather, energy companies and petro-states—burned by 2014’s price collapse—are spending less on new projects, even though oil prices have more than doubled since 2016. That has sparked concerns among some industry watchers of a massive price spike that could hurt businesses and consumers.

The oil industry needs to replace 33 billion barrels of crude every year to satisfy anticipated demand growth, particularly as developing countries like China and India are consuming more oil. This year, new investments are set to account for an increase of just 20 billion barrels, according to data from Rystad Energy.

The industry’s average decline rate—the speed at which output falls without field maintenance or new drilling—was 6.3% in 2016 and 5.7% last year, the Norway-based consultancy said. In the four years before the crash, that decline rate was 3.9%. < The annual decline rate in the U.S. is now in the mid teens and likely to go over 20% by 2020. - Dan

Any shortfall in supply could push prices higher, similar to when oil hit nearly $150 a barrel in 2008, some industry participants say.

“The years of underinvestment are setting the scene for a supply crunch,” said Virendra Chauhan, an oil industry analyst at consultancy Energy Aspects. He believes a production deficit could come as soon as the end of next year, potentially pushing oil above $100 a barrel.

Once, market participants worried that supply would peak. Now, they talk of vast oil reserves underground.

The Gulf of Mexico, for instance, holds roughly 4 billion barrels of proven reserves, according to 2016 data from the U.S. Energy Information Administration. But new projects generally require billions of dollars of investment and years of development. BP PLC’s $9 billion Mad Dog 2 development in the Gulf of Mexico isn’t expected to start production until 2021, despite getting the green light in 2016. Such deep-water projects take an average of 3½ years and roughly $5 billion to go from approval to production, according to consultancy Wood Mackenzie.

The industry has a record of boom-bust spending that can lead to big price swings.

Right now, companies are cautious after a period of profligate spending before the 2014 crash led to years of painful restructuring. Even as oil markets recover, Big Oil remains under pressure from investors to show it can maintain financial discipline and deliver on promises to improve returns. While production is still growing at many companies, they have been cautious about commissioning new projects.

“We will have to go to higher investment levels than we’re seeing at the moment,” Royal Dutch Shell PLC Chief Executive Ben van Beurden said Thursday. “My hope is still that we can avoid a real supply crunch.”

Oil-industry investments fell 25% in 2015 and 2016, according to the International Energy Agency. Capital expenditure was flat in 2017 and early data suggests a modest rise in 2018, despite oil prices rising around 30%.

“When you halve your capital expenditure, it’s hard for this not to have an effect,” said Martijn Rats, global oil strategist at Morgan Stanley. The bank predicts that supply shortages, among other factors, will push Brent—the global oil benchmark—to $90 a barrel at the start of 2020. Its bull case projects $105 a barrel.

Concerns over a possible transition away from fossil fuels are also hanging over executives. BP and Shell are moving toward producing more natural gas than oil, anticipating a surge in demand for the lower-carbon fuel. Adding to the industry’s supply issues, transport problems in Canada and the U.S. have led to bottlenecks.

Veteran oil investor Pierre Andurand is betting on a multiyear bull run in oil. Mr. Andurand said Brent could hit highs of $100 a barrel this year and top $150 by the early 2020s. Others forecast more modest price gains but still believe a supply deficit will raise prices.

To be sure, strong demand for crude could falter if the global economy slows. On the supply side, some large new projects have been commissioned, potentially signaling appetite for more investment, and companies are driving down project costs allowing them to do more for less. Likewise, soaring production from U.S. shale fields has offset underinvestment and declines elsewhere. But the shale industry’s growth is expected to peak in the early to mid-2020s, according to industry experts.

To avoid a longer-term price spike, companies need to start investing now, and not just in shale, analysts say.

Without those fresh investments, decline rates globally are expected to continue to worsen as companies finish working through projects financed before the crash.

In parts of Brazil and Norway, decline rates are already above 10-15%, Energy Aspects’ Mr. Chauhan said. Output from Venezuela’s aging fields fell by more than 700,000 barrels a day over the past year, according to the IEA. In June, Angola’s output hit a 12-year low, while Mexico’s production is down nearly 300,000 barrels a day since the middle of 2016, despite efforts to open up the industry and reverse declines, the IEA said.

“Nobody is really stepping in,” said Doug King, chief investment officer of the $140 million Merchant Commodity hedge fund. “People still got burned by the downturn.”
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With OECD crude oil and refined product inventories on steep decline and the economy booming, it is hard to believe that oil prices aren't higher than they are. The short-term impact of oil moving back over $100/bbl might be nice for those of us with lots of exposure to oil, but the negative impact on the global economy is something that we don't want. - Dan