Texas's Permian Basin a few months away from becoming OPEC's nightmare

Bloomberg/Fuel Fix:

The map lays out OPEC’s nightmare in graphic form.

An infestation of dots, thousands of them, represent oil wells in the Permian basin of West Texas and a slice of New Mexico. In less than a decade, U.S. companies have drilled 114,000. Many of them would turn a profit even with crude prices as low as $30 a barrel.

OPEC’s bad dream only deepens next year, when Permian producers expect to iron out distribution snags that will add three pipelines and as much as 2 million barrels of oil a day.

“The Permian will continue to grow and OPEC needs to learn to live with it,’’ said Mike Loya, the top executive in the Americas for Vitol Group, the world’s largest independent oil-trading house.

The U.S. energy surge presents OPEC with one of the biggest challenges of its 60-year history. If Saudi Arabia and its allies cut production to keep prices higher, shale will thrive, robbing them of market share. But because the Saudis need higher crude prices to make money than U.S. producers, OPEC can’t afford to let prices fall.

So the cartel finds itself squeezed between the-sky’s-the-limit U.S. output and softer demand growth. The 15 members, and allies including Russia, Mexico and Kazakhstan, will discuss the possibility of their second retreat from booming American production in three years when they gather Dec. 6 in Vienna.

OPEC helped create the monster that haunts its sleep. After it flooded the market in 2014, oil prices crashed, forcing surviving U.S. shale producers to get leaner so they could thrive even with lower oil prices. As prices recovered, so did drilling.

Now growth is speeding up. In Houston, the U.S. oil capital, shale executives are trying out different superlatives to describe what’s coming. “Tsunami,’’ they call it. A “flooding of Biblical proportions’’ and “onslaught of supply’’ are phrases that get tossed around. Take the hyperbolic industry talk with a pinch of salt, but certainly the American oil industry, particularly in the Permian, has raised a buzz loud enough to keep OPEC awake.

“You’ve got an awful lot of production that can come in very economically,’’ said Patricia Yarrington, Chevron Corp.’s chief financial officer. “If you think back four or five years ago, when we didn’t really understand what shale could do, the marginal barrel was priced much higher than what we think the marginal barrel is priced today.’’

That shift makes shale resilient to a price tumble. After touching a four-year high in October, West Texas Intermediate, the U.S. benchmark, has fallen by more than 20 percent.

Only a few months ago, the consensus was that the Permian and U.S. oil production more widely was going to hit a plateau this past summer. It would flat-line through the rest of this year and 2019 due to pipeline constraints, only to start growing again -- perhaps -- in early 2020.

If that had happened, Saudi Arabia would’ve had an easier job, most likely avoiding output cuts next year because production losses in Venezuela and sanctions on Iran would have done the trick.

Instead, August saw the largest annual increase in U.S. oil production in 98 years, according to government data. The American energy industry added, in crude and other oil liquids, nearly 3 million barrels, roughly the equivalent of what Kuwait pumps, than it did in the same month last year. Total output of 15.9 million barrels a day was more than Russia or Saudi Arabia.

The growth was possible because oil traders decided not to be stymied by the dearth of pipelines. They used rail cars and even trucks to ship barrels out of the region. But pipeline companies unexpectedly increased capacity, in part because they added chemicals known as “drag reduction agents’’ to increase flow. A new pipeline came online earlier than anticipated, and with three more expected between August and December next year, production is poised to skyrocket.
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There is more.

Because of the recent price drop, domestic refineries are blending more of the light crude with the heavy imported crude, thus reducing imports.  If the refiners make the switch to all light crude, it could quickly make the US energy independent and enhance national security.  It would also reduce the need for ethanol which would be a good thing for consumers and not so good for the agribusiness cartels. 

The biggest mistake OPEC made in recent years was trying to kill the shale production using predatory pricing.  Instead of killing it, the producers became more efficient and reduced their costs to below that of most OPEC countries, without the burden of financing socialist programs.

It has helped US production that the Trump administration has reduced burdensome regulations imposed by President Obama who was trying to throttle the fossil fuel business in favor of less efficient alternative energy.  In doing so, Trump has made the US more competitive and enhanced its national security