When you are felling a really big tree, the first signs that it is coming down are subtle; a crack here and there, a twitching of the crown. By the time these clues register on you, the tree is on its way down. The cracks and twitches from the U.S. oil industry are coming almost hourly now, and although it is a really big tree, and won’t actually hit the ground until next year, its fate is pretty well sealed. Here are this week’s signs and portents:
- British Petroleum announced Wednesday it will cut thousands of jobs worldwide, in addition to a previously announced two-billion-dollar cut in its operating budget and a fire sale of $43 billion dollars worth of assets (most of them in the US fracking patch). BP disclosed that over the next 18 months it will spend a billion dollars on “restructuring.” Deutsche Bank immediately upgraded BP stock to “buy.”
- Goodrich Petroleum announced Wednesday it is exploring the sale of “some or all” of its shale-oil assets in the Eagle Ford play in Texas, the second-largest contributor to the country’s shale oil “boom.” Goodrich also said it will make a drastic cut in 2015 capital expenditures (which, in the oil bidness, includes the search for new wells) to $150-$200 million, down from last year’s $375 million.
- ConocoPhillips announced this week it will cut capital spending by 20% next year to $13.5 billion.
- Chevron announced it is not going to make any decisions on next year’s capital expenditures until…next year.
- In all, oil and gas exploration projects worldwide worth more than $150 billion are likely to be put on hold next year. Analysts are now predicting a 25 per cent decrease in exploration and production spending by the oil companies.
- The long term implications of these cuts are dire for the oil companies, for the simple reason that you cannot sell oil you have not found, and oil is getting much more difficult and expensive to find. The short-term consequences will be dire for the oil services sector, the companies such a Halliburton and Baker Hughes who provide the machinery for the drillers and frackers and transporters. According to Bloomberg News, the industry now expects 400 of the 1848 US onshore oil rigs now operating to be idled by next year. Another 200 new rigs, under construction for delivery next year, are now expected to have nothing to do.
Earnings forecasts are being downgraded almost daily across the whole sector. Stock prices are dropping. But wait, there’s more.
Two things about the fracking boom are not well understood: its voracious appetite for cash, given the expense of the process and the astonishing depletion rates of the wells; and the extent to which the industry has been financed with junk bonds and the even junkier leveraged loans (for borrowers whose credit is no longer good enough to issue junk bonds). Until now, the hype about how huge fracking was going to be for decades to come had kept the suckers’ money coming in just fine. Just this year, until October, energy companies had no trouble borrowing $50 billion with junk bonds. (Since 2010 the industry has loaded up on more than half a trillion dollars’ worth of high-interest debt.)
Now, that string has run out. Junk bonds and junk loans that secondary markets had been clamoring to buy at or near face value have lost 20% of their value. And secondary markets are crucial to the junk lending business, no one wants to be stuck owning a loan that isn’t going to be repaid; you have to get it out the door to the next idiot and bank your fees. When it starts costing you 20% to move it out the back door, you stop bringing it in the front door. That’s happening now.
The only way to get investors to touch this junk is raise the interest rate, which seems to work even when there are deep misgivings about ability to repay. Junk loans that used to cost less than six per cent this summer are now requiring over nine per cent. So just as oil companies revenues are plummeting, their stock prices are tanking, and their wells are going dry, their expenses are skyrocketing.
When you see that much trembling and hear that many cracks from a big tree, the only thing to do is step well back and yell “Timber.”
The torrent of bad news from the beleaguered oil industry continues, with more every few hours.
North Dakota state officials said Friday that oil production in October declined by about 4,000 barrels per day to 1.18 million daily barrels compared with September, the first decline in eight months. Drilling for new wells also declined and is expected to decline even more in 2015.
Oasis Petroleum, one of the large operators in North Dakota, announced Wednesday that it would drop from 16 drilling rigs to six rigs. On Friday, stock prices for the 10 largest publicly traded oil companies with North Dakota operations were down by an average of 51 percent over three months.
Rigs targeting oil in the U.S. will drop below 1,100 for the first time in three years as drillers pull out of fields made unprofitable by a 43 percent plunge in crude prices. According to the energy data and analytics company Genscape, the oil count is set to drop by almost 600 rigs over the next eight months, bottoming out at 1,073 in August.
“Major stock indexes tumbled Friday as a main crude oil benchmark fell below $60 a barrel to its lowest point since the depths of the Great Recession, leaving stunned analysts looking for a bottom. With some investors concerned about the energy sector and others taking profits from a high-priced market, the Dow Jones industrial average fell 315.51 points in a finishing touch to the worst week for stocks in three years.” — The Los Angeles Times
“So the bloodletting continues: the Energy Select Sector ETF (XLE) is down 26% since June; S&P International Energy Sector ETF (IPW) is down 34% since July; and the Oil & Gas Equipment & Services ETF (XES) is down 46% since July. Goodrich Petroleum, in its desperation, announced it is exploring strategic options for its Eagle Ford Shale assets in the first half next year. It would also slash capital expenditures to less than $200 million for 2015, from $375 million for 2014. Liquidity for Goodrich is drying up. Its stock is down 88% since June. They all got hit. And in the junk-bond market, investors are grappling with the real meaning of “junk.” Sabine Oil & Gas’ $350 million in junk bonds still traded above par in September before going into an epic collapse starting on November 25 that culminated on Wednesday, when they lost nearly a third of their remaining value to land at 49 cents on the dollar.— Wolf Street