PRIMARY VISION INSIGHTS MONDAY 3 June, 2019

By Mark Rossano

                Global Energy Markets

       The global markets remain in a volatile position, with contradictory factors impacting crude supply/demand.

       On the bullish side:

  1. OPEC+ has indicated maintaining production cuts through the end of the year as global crude builds accelerate
  2. Russia tainted crude creates supply disruptions in Europe
  3. Iran sanctions
  4. Geopolitical risk with attacks on ships in port and pipeline/pump stations
  5. Venezuela exports falling—should hold at about 500k barrels a day
  6. Nigeria disruptions with another pipeline shut due to fire
  7. S. refiners ramping utilization as Memorial Day kicks off driving season

       While on the bearish side:

  1. Nigeria had two expected shipments slip out of June and into July even as scheduled exports rise
  2. S. and China experiencing builds in crude storage
  3. Builds in refined products as imports rise in the U.S and Houston Ship Channel delays
  4. Refined product from Asia has increased flow into the Americas—highlighting softening demand in Asia with the U.S. also slowing
  5. China-U.S. escalating trade war impacts the global economy and hurts demand

These are just a few points highlighting why there has been an increase in volatility with prices likely to shift lower as demand wanes. The physical market is paramount, providing support for a $10 Brent/WTI spread in the front month as global oil prices come under pressure. Crude flows—specifically early output from Nigeria, Angola, and Russia—show oil demand remains stable, but cracks are forming in softening diesel/gasoline demand and rising builds. The focus will remain on product builds, which have accelerated across the global complex and potentially lead to refinery run cuts in Asia. Demand declines should level off as summer gets into full swing, but elevated gasoline prices will act as a headwind impacting crude pricing if the start to driving season is lackluster.

The back of the curve for Brent/WTI is tighter, at around $6, but will widen as completions ramp through June to fill U.S. pipelines. This will overwhelm coastal export capacity, putting pressure on prices versus the floating market. The strength in the international market and the widening differentials in crude will keep activity growing abroad, and be a source of revenue for oilfield service companies. Policy shifts, shortage of heavy-sour and medium-sweet barrels, and catching up on postponed maintenance will drive additional oilfield service across the International landscape. It will also drive pricing, which will help strengthen margins across the board.

        U.S. Completions

The energy market continues to send mixed signals, with some companies laying down spreads, while others are adding capacity.

It comes down to the haves vs have nots:

  • What basin are you operating within?
  • What suite of services/products are you offering?
  • And most importantly: Who is your counterpart (and in this case E&P)?

The growing economic challenge to maintain staff and equipment led to E&Ps outsourcing spreads as logistic complications continue to rise around water, sand, and maintenance, to name a few. The cost savings in outsourcing is supported by the need for economies of scale to deliver elevated sand and fluid for increasing downhole intensity. The updated recipe pulverizes the rock closer to the well-bore by shortening the wingspan (how far the fracture reaches out into the rock), and maintains strong pressure and limited communication between other wells and natural fractures. This formula will continue to get refined with new recipes and techniques, but the chemical mix (while always important) continues to improve to maximize recoveries in new fractures and work-overs. The shorter wingspan provides higher recoveries by maintaining communication with the fractures, and allows for acid washes (removal of wax build-up) or other clean-up jobs that reinvigorate the well and shift total recoveries higher. These factors will keep chemical demand elevated, and maintain competitive advantage for service companies that can provide them based on the strong margins derived from the product.

Competing for business against the integrated service companies continues to be challenging, which is pushing smaller companies to be basin specific and stick with core competencies to maintain workflow. This has led to inconsistent reports of some companies adding resources, while others are laying down equipment. This is driven by the basin they’re located in, and the underlying activity of their customer base. The U.S. market is prime for additional activity as drilled but uncompleted wells are added throughout the Permian. There has been some normalizing activity in the Eagle Ford, Bakken, and DJ Basin as more wells were completed and turned to sale as E&Ps looked to maintain production targets amid Permian bottlenecks. As pipelines start to commission out of the Permian, frac spread activity will focus on keeping pace, which will shift activity as E&Ps attempt to live within cash flow. This is supported by falling costs in the Permian as E&Ps focus on production mode utilizing pre-existing infrastructure and maximizing pad development. Basins will have to compete for cash from tightened budgets.

The focus on maximizing cash flow has E&Ps shifting into areas with spare pipeline capacity and premium delivery points as basis spreads remain a concern. The table below highlights that an estimated 37 spreads are operating away from the main basins in 2019, while in 2018, the core basins accounted for the growth in production. As June activity and pipeline completions approach, the Permian, Eagle Ford, and Williston will pick up more crews. The Marcellus and Utica will remain constant, while the elevated work experienced in the Haynesville over the last two years remains strong as LNG facilities are completed.

Crude pricing volatility will remain as demand and the geopolitical situation remains uncertain, with the key bellwether for future price appreciation driven by RBOB (Reformulated Blendstock for Oxygenate Blending) and octane as builds in gasoline will be a precursor to softening demand and weakening crack spreads. The Asian markets have continued to experience product builds, even with large exports into the U.S. driven by a seasonally slow rise in utilization rates and European disruptions from tainted Russian crude. U.S. builds in crude have been offset by increasing draws in gasoline as exports remain strong in both gasoline and distillate. In the meantime, there is demand for U.S. crude in Europe and Asia (ex-China) that will support activity through the early part of summer, causing a shift in work back into the main basins highlighted in the chart above.

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