WoodMac: US tight-oil market ‘too robust to bust’

A drop in global oil price levels or a significant widening of the differential between global oil prices and inland realizations are just two of the ways the North American tight-oil boom could go bust, according to a recent analysis from Wood Mackenzie. The research and consultancy group, which reported its findings Mar. 25 at the American Fuel & Petrochemical Manufacturers annual conference in Orlando, Fla., stated that 70% of US reserves would remain economic with global oil prices at $75/bbl.

“There is not much US producers can do to influence global oil prices,” said Harold York, WoodMac principal downstream research analyst. “Supply and demand fundamentals and nonmarket dynamics around the globe keep the price environment well above the break-even economics levels of several US tight oil plays,” he said, adding that nearly all proved reserves of US light tight oil (LTO) are viable at today’s prices.

WoodMac reported that “sustainable break-even prices depend more on the basis differential between the relevant pricing point (e.g., Cushing, St. James) and each respective play, as these include elements such as crude oil quality differences and transportation cost.”

York said, therefore, “A single play can have multiple refining values and transportations costs, therefore a producer may realize a higher netback by selling their crude oil in to a refining center with higher transportation costs.”

Logistics constraints—and their subsequent relief—has driven “the considerable volatility of North American crude oil differentials in the past 3 years,” WoodMac said, adding that this raises the question: “Will there will be sufficient crude oil logistics capacity to meet the rising production profiles of the US and Canada.”

Rise in oil production is spread across the US and Canada, with 6 million b/d expected by 2025, most of which taking place by 2020, WoodMac reported. “Successful unconventional plays such as the Bakken, Eagle Ford (Gulf Coast), and Permian account for almost two thirds of US LTO production,” it said.

“If sufficient logistics capacity don’t materialize, there is a risk that crude basis differentials could widen to the point of making incremental drilling uneconomic, therefore stalling production growth,” York said, adding, “However, as we’ve seen in the last 18 months, not all of that volume needs to move by pipeline, as rail has rapidly come on stream.”

WoodMac noted that a variety of transportation modes should provide adequate capacity to keep crude oil differentials relatively contained. “Today, crude markets are becoming complicated with growing price points, changing costs for various modes of transportation and variable qualities of LTO. As the growth in LTO challenges the ability of refinery configurations to absorb more light crude oils, relative price discounts have the potential to grow over time,” York stated.

“The magnitude of the United States Gulf Coast quality discount can also evolve depending on locations,” WoodMac noted, adding, as an example, that despite the reversal of the Houston-to-Houma pipeline, there is insufficient pipeline capacity between the Houston refining center and St. James, La., to evacuate all the light crude oil destined for Houston from the north (Cushing), west (Permian), and south (Eagle Ford) at low cost. “There is potential for saturation of LTO to develop in the Houston-Port Arthur area, resulting in Houston light crude oil pricing at a discount to Brent and also Louisiana light sweet.” York noted.

In addition, when considering the nation’s oil export policies, WoodMac said that relaxing the constraint on the crude oil exports policy “would not necessarily eliminate these basis differentials nor eliminate the ‘quality discount’ of US crude oil pricing.” Rather, “the differential to international crude oils would likely narrow, perhaps substantially, as the discount under a policy of US crude oil exports would be settled by a US and international crude oils arbitrage off the US coasts.”

WoodMac concluded, “It all comes down to whether the US crude basis differentials could deepen enough to disrupt expected drilling programs, and in line with [our] outlook, [we conclude] the bust likely won’t happen as the North American tight oil market is too strong to breakdown.