From the arid wastelands of west Texas to the rolling, green hills of Pennsylvania, America’s shale drillers are sensing victory. Opec’s decision to chop production for the first time in eight years has handed their industry a lifeline.
Indeed, Saudi Arabia’s decision to reverse course on a policy to flood the market and drown out high-cost competition has started a “shale oil party”, according to Bjarne Schieldrop, a commodities analyst at SEB, the Nordic bank.
No matter that since Saudi Arabia forced the oil price crash in 2014 American output has fallen by nearly a million barrels per day; those shale drillers that have survived the slump are ready to return to the fray leaner, meaner and intent on cashing in.
Though it would argue otherwise, Opec’s decision to cut 1.2 million barrels per day off its output from January 1 looks increasingly like an admission of defeat. The shale drillers’ cost of production remains much higher than that of the established Opec producers, such as Saudi Arabia, which can pump crude for as little as $3 per barrel but the oil price slump has had a perverse effect, making the American upstarts and wildcatters more competitive than ever before. And with oil no longer at the $27-a-barrel level it plumbed in January, yesterday’s $53 price tag allows them to hedge their production and roll in new rigs at prices guaranteed to lock in profits.
Jason Gammell, an oil analyst at Jefferies, the investment bank, said: “You will start to see higher levels of activity and US production will rise.”
Khalid al-Falih, Saudi Arabia’s oil minister, said that the kingdom was prepared to take a “big hit” on production to get a deal done. “I think it will be a boost to global economic growth,” he said, in comments that marked a clear move away from the former strategy. That appears to have been junked, after Saudi Arabia decided that it could no longer stand and watch as its oil-fuelled economy headed deeper into the red as oil revenues collapsed. Despite its colossal oil wealth, the kingdom faces a budget deficit of $87 billion this year and is struggling to make payments to private companies.
In October, Riyadh raised $17.5 billion from its first foray into the global bond markets as it tried to repair finances. Sub-$50 oil has smashed the kingdom’s stock market and Mohammed bin Salman, the deputy crown prince, was growing increasingly alarmed at the long-term impact on his pet project, Vision 2030, to diversify the economy away from oil.
Damage to the economies of weaker Opec member states, such as Venezuela and Algeria, has been even greater, adding to a clamour for action within the cartel, which pumps a third of the world’s oil. But it was Saudi Arabia’s decision to throw in the towel and back a production cut that marked the turning point.
John Hall, a veteran oil analyst and founder of Alfa Energy, said Opec’s members had grown desperate to secure a deal this year but he warned that a revival of American shale production could extinguish hopes among cartel hawks that prices might quickly rebound to as high as $80 a barrel.
Some American shale formations, such as the Permian Basin in Texas, are profitable at prices as low as $40. Others, such as the Bakken shale further north in the Dakotas, require higher prices to be economic. In any case, any sustained recovery above $50 is likely to unleash a fresh wave of US output, which in turn could limit price gains.