Musings: Dog Days of Summer Bring a New Reality to the Oil Patch

Musings: Dog Days of Summer Bring a New Reality to the Oil Patch
The dog days of summer have seen increased volatility for oil prices and the stock market, which means more challenges for the businesses and employees; G. Allen Brooks offers insight to the layoffs.

As August drew to a close, commodity and stock markets were buffeted by a tornado associated with the dark economic clouds growing over China and the rest of Asia. In our last Musings we covered the issue of the lack of economic transparency in China and the extremes to which analysts and investors must go to try to assess what may be happening in that country. What had been a remarkably benign year for the U.S. stock market, and, in fact, for most of the past three years, has suddenly come unhinged. The bull market since the end of the 2008 crisis has been largely driven by the Federal Reserve’s easy money policy designed to stimulate U.S. economic growth. It has convinced investors that stock markets only go up. As shown in Exhibit 5, other than for a brief period in late June and early July of this year, and also at the end of 2014 and in early 2015, the Vix index has been essentially flat, and at a very low level. The Vix index is a trading vehicle that reflects the Standard & Poor’s 500 Stock Index’s volatility. When the Vix index goes up, it signals an increase in stock market volatility, while when the Vix index is low or stable, it reflects relatively low volatility. Jumps in the Vix index are taken by market students as an indication of growing fear among investors that they see the market entering a difficult period. We have certainly seen that fear demonstrated in recent weeks as the Dow Jones Industrial Stock Index has experienced daily price swings of 400-700 points.

Stock Market Volatility Has Exploded Recently
Source: Yahoo Finance

Crude oil prices have also experienced greater volatility in recent weeks. So far this year, crude oil prices have experienced two rallies and may be in the early phase of its third rally from the low levels that have not seen since the dark days of the 2008-2009 financial crisis. West Texas Intermediate (WTI) had clawed its way back to $60 a barrel in June from its late March lows in the mid $40s a barrel. The second cycle saw the oil price drop bottom out at $38.50 a barrel, substantially above the 2008 cycle low of $33.43, but consistent with recent technical trading patterns based on the past five years that suggest the bottom in oil prices should be in the range of $38-$40 a barrel.

The Story of Crude Oil Prices In 2015
Source: EIA

The recent collapse in oil prices has been greeted with a sharp fall in the domestic drilling rig count. The rig count had stabilized and actually increased slightly after oil prices bounced up. Higher oil prices and a rising rig count was embraced by the oil and gas industry as a signal that maybe this correction had seen its worst and the industry was beginning to heal. Analysts who examined past downturns found that in the 2008-2009 correction, oil prices fell from the $140s a barrel in July 2008 to sub-$34 a barrel by December, but then rebounded to $65-$70 a barrel by July 2009, or just over a 12-month time span. In comparison, the peak oil price preceding this correction occurred in June 2014 with oil at $107 per barrel before falling to $44 a barrel in March 2015 and then rising to $60 in June 2015. This pattern of oil price movements fits the same time span as oil prices followed in 2008-2009. Then things changed!

The recent drop in oil prices has come at the same time oil and gas and oilfield service companies were presenting their second quarter financial results. None of those results were good, and much of the discussion on earnings conference calls with investors dealt with management team expectations for the future and detailing the steps they were taking to weather the downturn. One of the key trends to emerge from these calls was the acceptance that this downturn was worse than almost everyone had expected heading into it and that oil prices were likely to remain lower than anticipated and would last longer than expected. The ‘lower for longer” scenario has finally forced reluctant management teams to make more significant adjustments to their companies including additional employee layoffs.

The first companies within the energy sector to cut employees were the oilfield service companies. Those cuts were not surprising given the rapid drop in the drilling rig count and its associated oilfield activity that began in late 2014. The workers being let go were those who ran those pieces of oilfield equipment who no longer had work to do. In early January, Schlumberger Ltd. (SLB-NYSE), the world’s largest oilfield service company, announced it was laying off 9,000 of its 123,000 employees in response to the drop in oil prices from over $100 a barrel to about $75 in January. As oil prices continued to fall, by April the company was forced to announce an additional 11,000 job cuts, or a total of 15% of Schlumberger’s worldwide workforce at the start of the year. Many of the company’s competitors thought those cuts were draconian, but the reality seems to be that Schlumberger’s management team had a better handle on the magnitude of the growing downturn. Maybe Schlumberger’s managers thought that if they had cut too deep, they could easily rehire employees they needed. Then again, managers would be forced to examine how best to structure their business.


View Full Article

G. Allen Brooks works as the Managing Director at PPHB LP. Reprinted with permission of PPHB.


Click on the button below to add a comment.
Post a Comment
Generated by readers, the comments included herein do not reflect the views and opinions of Rigzone. All comments are subject to editorial review. Off-topic, inappropriate or insulting comments will be removed.
Philippe | Sep. 27, 2015
I had proposed an article that in today’s climate is pertinent, below is an excerpt. Standard reservoir based project: The oil or natural gas reservoir is identified through 3D analysis. The wells are strategically located so the reservoir pressure is controlled and balanced. The level of heavies and water must be understood and controlled. The injection wells, to maintain the pressures over the production life of the reservoir, are located. The total number of wells may involve 10 or 20 or more wells depending of the size of the project. Once they are drilled, the rigs may do work over, that is the extent of the drilling. The infrastructure must be constructed, gathering and injection pipelines, separation stations, storage and export pipelines. In an offshore project the cost is many times more expensive, if only for the deep water installation. Fracking production Shale play using fracking technology is totally opposite. First there is no reservoir, just a geological mass that has been identified as containing oil and/or gas, including NGL. Each well will be fracked to liberate the crude, gas or NGL. At first, for the first 12 month, named Initial Production (IP) will be high. Over time the fracked mass will lose pressure and the rate of production called Estimated Ultimate Recovery (EUR) will become 50% or less than the IP production. When this happen, new wells are drilled and old EUR wells may be retired. The idea is to keep an average production by mixing the IP versus EUR wells. This requires constant drilling; if not the cost to maintain the infrastructure will be more expensive than what the EUR production can fetch. A 5 years EUR well will produce a trickle of an IP well. Drilling new IP wells may replace the production of 2 or 3 EUR wells. Retiring EUR wells may be cheaper, from a maintenance aspect then keeping it producing. Capital expenditure is key to have, over time a profitable shale play. We are, today, at the extended time when the IP production is declining. Meaning 12 to 18 month since the IP wells were drilled in 2014. The new drilling is the replacement of old IP with new IP wells. This means, US shale producers go out of business or stay producing with a limited capital investment.


Our Privacy Pledge

More from this Author
G. Allen Brooks G. Allen Brooks
Managing Director,
 -  Musings: Outlook for The US Offshore I... (Mar 22)
 -  Musings: Low Prices And Liberal Politi... (Feb 12)
 -  Musings: Are We Entering The Capitulat... (Aug 25)
 -  Musings: A Retrospective View of A Res... (Aug 11)
 -  Musings: Weekly Oil Data Confusing, Bu... (Jun 16)

Most Popular Articles

From the Career Center
Jobs that may interest you
Cost Accountant
Expertise: Accounting
Location: Midland, TX
Facilities Engineering Manager
Expertise: Engineering Manager|Facilities Engineer|Refinery / Plant Operations Supervisor
Location: Lake Charles, LA
United States Houston: Accountant
Expertise: Accounting|Financial Analyst
Location: Houston, TX
search for more jobs

Brent Crude Oil : $52.72/BBL 3.31%
Light Crude Oil : $48.51/BBL 3.01%
Natural Gas : $2.89/MMBtu 1.36%
Updated in last 24 hours