After dropping to $47 a barrel about 10 days ago, WTI oil prices closed above $53 a barrel Monday night.
This is welcome news following growing fears that the OPEC production agreement was failing. If OPEC and its non-OPEC supporters could not act in concert and meet their commitments to cut output supporting higher oil prices, then there would be little hope the cartel would ever be effective. The latest OPEC reporting data, supported by independent media surveys, shows overall adherence to the production cuts even if not all participants have met their promised individual output cut targets.
Even more important, late Tuesday afternoon Saudi Arabia told OPEC that it would like to see the production cut agreement extended for another six months.
As oil prices crossed the magical $50 a barrel threshold, the oil industry breathed a huge sigh of relief.
Yes, the price rise is being helped by seasonal demand — crude oil prices traditionally rise at this time of year as refineries return to work and begin producing gasoline supplies for the summer driving season — but global oil inventories are being drawn down.
Iran offers an interesting data point regarding that draw down. It was one of the few OPEC countries allowed to boost its production within the organization’s agreement. Now, its exports have exhausted its floating oil storage reserve, meaning to sustain its five million barrels a day of exports, it will have to rely solely on domestic output, which is substantially below its export target. Thus, Iran will inadvertently subtract further from OPEC’s reduced supply commitment.
Ongoing geopolitical issues in Libya and Nigeria also are driving OPEC supply reductions. Libya has shut down exports due to problems at one of its major fields that appears to be related to an attack on the pipeline that transports crude oil to the port. It is impossible to predict when steady supply from Libya will resume. Venezuela’s output is also at risk of shrinking or disappearing altogether due to the political and economic turmoil in that country.
A recent report from oil consultant Wood Mackenzie offered more good news for the offshore business. The report found that breakeven prices for five billion barrels of pre-sanction deepwater reserves (which will generate a 15% internal rate of return) is now below $50 a barrel, down from prior breakeven estimates of greater than $70. The lower price brings these projects into direct competition with onshore shale plays, offering oil companies increased planning options.
Importantly, Wood Mackenzie found that the reduction in breakeven prices was not solely dependent on lower offshore drilling rig day rates. That means many of the offshore cost reductions, and especially those related to organizational changes, should be sustained during the next upcycle. So while the offshore business waits for its recovery to gain momentum, higher oil prices plus offshore cost reductions provide encouragement that a recovery can be sustained.
