Global exploration operators are ready to get back to business in oil and natural gas onshore and offshore, with the international players likely to shell out more funds this year than their Lower 48 compadres.
Energy analysts in recent weeks have begun offering their takes on the likely pace of activity and potential capital expenditures (capex) for the exploration and production (E&P) and oilfield services (OFS) sectors.
Evercore ISI recently completed a comprehensive analysis of about 250 of the world’s top operators using a combination of internal documents and conversations with various players.
“For the first time since 2018, E&P spending is poised to increase both in North America and internationally with almost all geographic regions anticipating growth,” said the Evercore analysts.
Evercore, like other analyst teams, is forecasting a revival in capex following last year’s 25% year/year collapse after E&Ps and their OFS brethren retreated in the wake of the pandemic.
The slump in global E&P capex during 2020 likely marked “the third worst downturn in our survey’s 35-year history,” the Evercore analysts said. The dive in spend was in “sharp contrast to the plus-2% growth anticipated a year ago” in the firm’s annual survey.
On the positive side, overall capex ended 2020 more than 200 basis points better than the 27% contraction projected at mid-year.
Worldwide, E&Ps should boost their spending for 2021 by around 7%, weighted to international players. The U.S. E&Ps look to bump up capex on average by 5.4% from a year ago, with Canada capex rising around 3%, according to Evercore data.
The United States should rebound at close to its 2016 trough, while Canada spend could be nearly one-third lower.
In initial 2021 budgets, the domestic E&Ps were using an average oil price of $42/bbl West Texas Intermediate (WTI), with average natural gas prices of $2.70/Mcf Henry Hub, according to Evercore.
Based on the reviews, U.S. operators indicated they could reset spending higher at $53 WTI and $3.50 Henry, or brake for prices slumping at around $36 WTI and $2.00 Henry.
Buh Bye, 2020
What’s clear is that no one wants to remember the year that shall not be named. The energy complex was challenged last year “in ways we couldn’t have imagined,” the Evercore analysts said. Operators now are picking themselves off the mat, encouraged in part on recent events that may improve oil and gas consumption.
Saudi Arabia, which leads the Organization of the Petroleum Exporting Countries (OPEC), on Tuesday agreed to cut oil production in February and March by a stunning 1 million b/d. The news initially sent crude prices to a 10-month high.
According to the accord, Saudi Arabia volunteered to cut production by 400,000 b/d in February and in March. The cut by OPEC and its allies overall would total 7.125 million b/d in February and decline to 7.05 million in March.
“Saudi Arabia put the cherry on the cake,” said Rystad Energy analyst Bjornar Tonhaugen, head of Oil Markets. “If there is one way to describe what its voluntary cut means for the market, ‘happy hour’ is a pretty fitting term. They say there is no such thing as a free meal, but it’s difficult to see how a beast of a 1 million b/d cut is justified behind closed Saudi strategist doors.”
Another green shoot is the advancement of vaccines to stem Covid-19. Many people WFH, aka working from home, are anxious to meet and greet long lost relatives, friends and coworkers. That could lead to an upsurge in travel — and the potential return to the office for millions of people.
“The new year has really started with a bang for bullish traders as oil prices continue to grow on the back of Saudi Arabia’s promised production cuts, falling crude inventories in the U.S., and the latest political turmoil in the Capitol,” said Tonhaugen. The Saudi decision to cut output “is changing the global balances significantly already from the first quarter, swapping previously forecasted surpluses to deficits.”
The OPEC cuts should positively impact activity in the Lower 48 with oil prices projected to improve.
“Amid the Saudi price cushion firmly offered to the competition, the industry is well placed for renewed growth from 2021,” Tonhaugen said. “We would not be surprised to see the U.S. shale machine churning out higher output in 2021 than most expect, even the Saudis.”
Still, current oil price levels are built on the “promise of a single oil producer,” which
“shows how fragile price levels are to a potential change of mind of a single country.”
Price support has to be demand-based, not artificial, the Rystad expert said. It could begin in 2Q2021, “with the recovery cementing itself in the year’s second half.”
BofA Global Research analysts said the hallmarks for the oil and gas complex this year should be based on “relevance and restraint.” The investment case for E&Ps and OFS firms “has been reset” on more than one level.
“At the sector level we see the broader industry returning to what it used to be: improving returns with options to participate in a recovering commodity cycle,” BofA analysts said. “All of this is anchored on a change in the industry business model that prioritizes cash returns, exercises capital restraint and draws a line under the unnecessary oil growth that undermined confidence in how value is defined.”
E&P transparency should be anchored on improving free cash flow. If Brent oil prices average around $55/bbl, the sector could be positioned “as relevant again in the eyes of investors.”
There is uncertainty on the timing of the vaccine rollout versus additional lockdowns, but the BofA team believes the oil markets “are in the early stage of rebalancing,” because of improving sentiment anchored by the Saudi oil cuts.
“Longer term, we see many hallmarks of a cyclical low, with remarkable similarities to prior oil cycles.”
A Little Less Conversation…
While the talk for months has been to expand transparency for E&Ps and the OFS complex under the banner of environmental, social and governance (ESG) initiatives, everybody should take a breath.
“Energy has been out of favor for the right reasons, but we are concerned abysmal sector performance has dressed up ESG as a disqualifier for avoidance,” the BofA team said. “With improving sector performance, we expect a more balanced discussion on the role of ‘old energy’ within a broader energy transition.”
This should start by improving disclosure, measurement and performance across the industry, according to the BofA team, “recognizing the sector as part of the solution toward aspirational goals of decarbonization.”
Oil and natural gas “remain significant parts of the energy mix,” with low cost and low carbon “the preferred strategy of U.S. oils versus outright pivots to ‘big’ energy.”
Public discussions about the transition from fossil fuels toward zero carbon options have been at the forefront of E&P and OFS commentary for months, but Evercore analysts also think the zero carbon subject is a bit overstated.
“We are less concerned about the competition for upstream dollars from renewable energy as it won’t be the first time this is happening,” the Evercore team said. E&Ps remain “true to their oil and gas roots,” and overall have become wary of testing and adopting technologies because of capital constraints.
Many operators acknowledge the need for innovations in artificial intelligence and machine learning, but only a dozen or so of the E&Ps analyzed by Evercore in its analysis appeared ready to expand their target resource bases to include renewable energy.
Most instead are considering a switch to a service or technology “that lowers carbon emissions, with 40% willing to pay up to 20% more for it.”
The incoming Biden administration should see easier passage of its priorities with control of the Senate and House. And that may be a bigger positive for the energy complex than some may realize.
“Democrat control of the three halls of power implied to me a supersized stimulus deal is imminent,” said Mizuho Securities USA LLC’s Robert Yawger, director of Energy Futures.
The market “has flipped from concern for regulation and taxation early in the day, to supersized stimulus spending spree early in the Biden administration. Stimulus equals maximum greenbacks in the economy. The more greenback the lower the Dollar Index. The cheaper the dollar, the more dollars it takes to buy a barrel of crude oil. The higher the price of crude oil.”
Rystad’s Tonhaugen said the U.S. democracy was “shaken to the core” following the insurgency by a mob, “which did create some limited concern about instability in the country. However, we think that the markets will disregard the mayhem in Washington, DC, to a large degree, instead putting emphasis on tangible news droplets which influence fundamentals and prices.”
The Biden administration with Democrats in control “can actually get things done,” he said. “How prices will be influenced remains to be seen, but it seems the market believes a fiscal stimulus offsets harsher Covid-restrictions, and oil prices are understandably higher.”
For U.S. tight oil, the Rystad analyst said the industry should be well placed for renewed growth.
“We would not be surprised to see the U.S. shale machine churning out higher output in 2021 than most expect, even the Saudis.”