Oil plummets on no OPEC deal, but US shale could be the target

Oil markets plummeted Friday, and the biggest loser in the collapse is likely to be the U.S. shale sector.

From the perspective of truckers, the inevitable slide in diesel prices that is coming is going to be small comfort if you’re a trucking company servicing the oil patch. In a week when the U.S. Energy Information Administration reported the highest-ever level of U.S. crude production, those trucking companies with a stake in the oil patch — like Canada’s Dalmac, which recently shuttered — are likely to see a downturn in activity that could lead to other closures and certainly cutbacks.

The final tally had lots of red ink. Ultra low sulfur diesel prices on the CME exchange dropped 10.33 cents a gallon, settling at $1.3852 per gallon, its lowest settlement since June 26, 2017. The decline was 6.94% on the day. Since a recent high settlement of $1.7068 per gallon on Feb. 19, the price of ULSD on CME is down 32.1 cents a gallon.

ULSD actually performed stronger than the other major oil benchmarks. WTI crude — which is going to be the price that matters most to transport companies doing work in the oil patch — settled at $41.28 per barrel, down 11.19% to its lowest settlement also since June 2017. Brent crude, the world’s benchmark, dropped to $45.27 per barrel, down 9.44%. RBOB gasoline slid 8.73% to $1.3890 a gallon.

What happened in Vienna is that OPEC was recommending a reduction in its ceiling of 1 million barrels per day. Note that OPEC, mostly because of Saudi Arabia, already was producing about 270,000 barrels per day less than its quota in February, according to S&P Global Platts (though it was even more below the allocation in January). OPEC would have needed to cut a little over an additional 700,000 barrels per day.

But it was asking the OPEC+ group to cut its output by 500,000 barrels a day less than its current quota, which has mostly been violated anyway. After lengthy discussions, the group said no, the meeting broke up, and at the end of this month, there is no longer any limitation on what OPEC can produce.

The Russia-led OPEC+ alliance goes back to late 2016, so this was not a failure of an initial attempt to mate. There have been agreements in place for several years, though adherence to them has been, to be charitable, spotty.

The speculation then was that Russia and the others figured there’d be a price rout and the victims of that collapse would be the U.S. shale producers who last week, according to the EIA, produced 13.1 million barrels a day for the first time ever. Those weekly figures are preliminary, and the later monthly figures that are seen as more accurate have generally been coming in less than the weekly average — but not by a lot.

Among the speculation about “why did Russia (and others) do it?” — in other words, why did they take actions that they had to know were going to tank oil prices — the “let’s kill the shale business” argument comes up repeatedly. It is something Saudi Arabia tried back in 2014 without success. U.S. production rose incessantly and as the EIA numbers show, continues to rise.

The latest Enverus U.S. rig count for the current week shows it actually rising by one, to 838. That’s way down from the 1,085 of a year ago, but as the production levels show, for oil at least, the U.S. industry is getting more oil with fewer rigs.

What’s different from the price collapse of 2014 to 2016 — theoretically — is that the providers of capital that has made the shale explosion possible are demanding better returns. They don’t want just paper profits and they don’t want just rising levels of output. They want free cash flow and maybe even dividends; in other words, they want their investments to operate the way investments at most other businesses have been asked to operate for years. 

The stock prices of some of the major shale players are getting hammered along with everybody else, but it isn’t new. For example, Oasis Petroleum is down to 81 cents per share, a drop of 84% from its 52-week high. Concho Resources was down 11.9% on the day, a drop of 47% from its 52-week high.

But it won’t be the stock price that matters. Companies similar to those two are highly dependent on debt. As an example: On Thursday, S&P Global Ratings downgraded the debt rating of Whiting Petroleum to CCC+, one of its lowest levels. What it said in its summary of the action is a warning to the entire sector. The action was taken, S&P said, “driven by its upcoming debt maturities amid weak oil prices and unsupportive capital markets, amplified by the global coronavirus outbreak.”

It’s the “unsupportive capital market” that Russia may be looking at to help justify what it just did in Vienna. No capital and no more continual increase in U.S. oil production levels; that is the formula that may have been in the back of Russia’s mind when it walked away from the table.