The shale oil boom which returns 25 percent of the New Mexico State revenue is under “bust” threat from Saudi Arabia.
The current price decline in both midland Texas light sweet crude and brent (world price) will begin to defer future projects if prices fall to $72 a barrel and below. An estimated 80 percent of production and projected production in the next five years requires price stability higher than $ 75 per barrel. Saudi Arabia is combining market share strategy with a world oversupply of crude oil.
Oil producers in New Mexico are partially protected through cash flow hedges, which are crude barrels sold forward with prices established in futures (must be higher than present prices). However, no more than 50 percent of production is estimated to be hedged or protected in 2015. The other half must be sold at whatever the market (West Texas crude) price will be. An oil company can hedge 2016 production at $79.00 per barrel compared to the current hedge protection of $95.
Decline ratios (rate of recovery after initial production) are high. Massive drilling of new wells for replacement is the economic challenge. At least half of the new shale or light sweet crude oil production from the Southwest to North Dakota through the Rocky Mountain energy corridor is at risk.
This effectively limits the 10-year-old shale oil technology play and consequent “energy revolution.”
The shale oil or light sweet unconventional oil boom is the target of Saudi Arabian oil strategy which is market share. This rejects production cuts in response to weak demand and prices. Defense of market share coupled with falling world oil demand accounts for a global price fall of 25 percent since July.
The timing of the Saudi action has hit the Southwest U.S. unconventional oil producers when they are already vulnerable to a massive infrastructure bottleneck. Producers have confronted a discount price of as much as $15 per barrel because there is not sufficient pipeline take-away capacity from the Permian and San Juan basins to refineries on the Gulf of Mexico coast or anywhere. This is the result of unanticipated high oil production without investment in transport to get it to markets or process it here in New Mexico. Stand-by rail transport is costly and trucking is competitive with rail. New pipeline and refinery capacity is required in New Mexico and Texas.
Strategic market share is the Saudi Arabian counter-attack upon the American shale-oil and gas-supply revolution which threatens Saudi exports. Saudi ARAMCO is reacting to the rise of American oil production as a threat because of the demand to lift the 1975 prohibitions against American crude oil exports.
The argument for America to become a world crude oil exporter not only displaces Saudi crude exports to the U.S. market but also promotes geopolitical leverage against OPEC and Russia. With the lowest world cost of producing oil, Saudi Arabia is acting in its national interest against American competition or influence against its national interest.
While the Saudi market share strategy threatens unconventional or shale oil production of the United States, Washington, D.C., has been given, indirectly, another sanction against the Russian oil and gas industry. Lower crude oil prices have cut Russian export revenue by $300 million per day since the onset of the Ukraine hostilities which parallel the
Saudi–led oil price decline.
Saudi Arabia is credited in 1985, in part, for the disintegration of the Soviet Union when it adopted an aggressive market share high-production, low-price strategy, which reduced prices from $28 to $8 per barrel. Soviet Union dependence on oil export revenue was exposed and its credit line collapse contributed to the end of the cold war. The Reagan administration was neither remote nor indifferent toward Saudi oil production oversupply.
For Saudi Arabia today, higher production leading to lower crude oil prices undermines the American shale gas and oil revolution which depends on higher prices to offset higher production costs. This also reduces the value of Russian exports (over six million barrels per day) while Moscow is under economic sanctions. Since Russian natural gas sales to Europe are indexed to the price of oil, the market share of Saudi Arabia bites twice.
American shale oil and gas, the revolution of hydraulic fracturing and horizontal drilling, now faces a period of consolidation, capital discipline and new project capital planning postponement. In the traditional cycle, lower costs by service companies are anticipated to partially offset lower prices. The boom in West Texas, North Dakota, New Mexico and Colorado is at its first critical pause in that cycle. Not accidentally, Saudi Arabia has diminished the argument to lift the ban and export American oil to the world.
Saudi Arabia awaits the American shale producers to make the next supply move. It has financial reserves to cover fiscal demands and the war in the Middle East from its sovereign wealth fund to offset low crude oil prices not only for weeks but for years.
Four Corners oil activity or rig deployment and jobs await the 2015 expiration of cash flow producer hedges but small capitalized companies or private operators must confront the consequences of spending more than cash flow these last three years of $100 per barrel oil.
The new Republican majority in the U.S. Senate, in collaboration with the U.S. House of Representatives Republican majority, should call on the White House to appoint an emissary to Saudi Arabia on oil supply and price. Can the two, who are allies in the war against ISIS, avoid a highest level meeting on oil?