In World's Hottest Oil Patch, Jitters Mount That a Bust Is Near

(Bloomberg) -- Steve Pruett has seen more than his share of booms in three decades in the oil business. None, though, as strange as the one gripping the Permian Basin right now.

The telltale signs are the same as always, with companies like his desperate for skilled workers to man the drilling rigs that pierce the horizon in west Texas. What’s unusual, and unnerving, is that the Permian is still thrumming with activity after prices cratered for the stuff it pumps out. Crude is trading for around $50 a barrel, but this is the hottest oil patch anywhere on Earth, a swing producer influencing the trajectory of global markets and threatening OPEC.

That either means the industry has become so incredibly efficient that production can continue to rise even if prices don’t, or that it’s throwing money after a mirage. Pruett, chief executive officer of Midland, Texas-based Elevation Resources LLC, is more and more concerned about the latter.

“Oil men are innately optimistic,” he said, “and sometimes our optimism is our own worst enemy.”

This is the funny thing about the business. Ups and downs are so ingrained that crazy success is seen as an omen that the end may be around the corner. It has often been the case. Midland, a city of about 140,000 halfway between Fort Worth and El Paso, has ridden the roller coaster since oil was discovered in the Permian in 1923. Now the place is on a major upswing that’s permeated every sector, from auto sales to hotel bookings to home construction.

“You would think oil is $100 a barrel the way the real estate market is going,” said Victoria Printz, a Midland-based agent representing properties selling for more than $1 million. The average new-home sales price in the metro area shot up 8.5 percent in the past year, and permits for new construction climbed 76 percent. “This is extraordinary—even for Midland.”

What gives oil people pause is that costs for everything from pressure pumps to well casing have been been rising, up from 20 to 30 percent in the last year, a marker of an overheated situation that could burn out. Another is that possibly too-eager drillers are starting to venture from prime acreage to less bountiful formations, where they may get less bang for their bucks.

Experienced workers are harder and harder to find, and training newbies adds to expenses. The quality of work can suffer, too, erasing efficiency gains. Pruett said Elevation Resources recently had a fracking job that was supposed to take seven days but lasted nine because unschooled roughnecks caused some equipment malfunctions.

By this point, “we’ve given up all of our profit margin,” he said, referring to the industry. “We’re over-capitalized, we’re over-drilling and, if prices don’t rise, we might be facing a double dip in drilling.”

Pruett’s hands are tied: He’s working on University of Texas land and the lease requires development, so he has to keep boring drill bits into the ground. But other companies are slowing down or putting plans on hold as they assess whether what they’re spending will bear enough fruit.

Nobody wants this play to die out—and certainly not due to stupid boom-happy decisions that will flood the market and spur another crash. “It’s important that we try, during these periods that look pretty volatile to us, to pace,” said Al Walker, CEO of Anadarko Petroleum Corp., on a recent conference call with investors.

Anadarko is one of several large energy companies, Chevron Corp. and Occidental Petroleum Corp. among them, that have expanded operations in the Permian. It covers 75,000 square miles, nearly the size of Great Britain, in west Texas and southeastern New Mexico. The land is so flat that the horizon tapers off in the distance, as if you’re standing on an upturned bowl, while the sky stretches out to seeming infinity.

Hundreds of millions of years ago, it was a vast inland sea. The water evaporated and thousands upon thousands of feet of shale slowly built up, pressure-cooking deceased aquatic life and creating a massive reserve. By some estimates, there are 50 billion barrels of recoverable crude trapped in the fine-grained sedimentary rock, more than in all but 10 of the oil-producing countries in the world.

Other U.S. shale patches have petered out, but this one is special, blessed with unusually thick bands of the mudstones, 10 to 15 times the diameter of those in the Eagle Ford just down the road in southern Texas. Oil- and gas-soaked layers are stacked on top of each other like a tiramisu, bearing names such as Spraberry, Wolfcamp, Bone Spring and Avalon.

Those weren’t worth a whole lot until the ’80s, when the industry began perfecting fracking, a method of coaxing petroleum out of shale. It uses directional bores to carve out horizontal holes and blasts the tunnels with high-pressure bursts of water, chemicals and sand. That creates millions of tiny cracks, vastly expanding the areas for escape.

The process isn’t cheap, which didn’t matter when crude was commanding so much in the early part of this decade. That’s when the Permian and other shale fields, including the Eagle Ford and the Bakken in North Dakota and Montana, helped the U.S. reverse decades of declining output.

The American surge was a reason for the glut in 2014—the benchmark price went from $140 to $30 in six months—and there were more than a few obituaries written for high-cost shale. But the Permian roared back within two years, thanks to a combination of more intense fracking and the use of technology to mark more precise plotting for drilling targets.

The number of active rigs has more than doubled since May 2016. In August, Permian output exceeded that of eight of the 13 members of the Organization of Petroleum Exporting Countries. The flow is projected to rise to a record 2.63 million barrels a day in October, which would account for more than a quarter of the total from the U.S.

To Nate Steadmon, who runs the Midland branch of W-B Supply Co., those are just statistics. He knows from behavior which way the wind is blowing. When times are good, drillers want equipment as fast as possible. When it’s bad, they want it as cheap as possible.

“In the last couple of months, they’ve started asking how quickly we can do it again,” Steadmon said. “Now time is more of the issue, not money.”

That is one of those danger signs. But companies are constantly coming up with workarounds to rein in costs, like the hub being set up in a New Mexico pasture. A herd of cows feasted on hay on a recent afternoon, staring through a fence as dump trucks, bulldozers and backhoes kicked up a fog of dust. Occidental Petroleum Corp. is building a logistics-and-maintenance center that will host fracking pumps, steel pipes, sand and other materials by next year.

Right now, all that has to be hauled in from Odessa, some 120 miles away. Oxy, which spends about $6.6 million on a well, hopes to slice off from $500,000 to $750,000 of that total. “This will be a game-changer,” said Jody Elliott, president of the domestic oil and gas division.

Maybe the experts will figure it out, and this one will last. But it’s so reminiscent of the last boom that went bust that it has folks on edge. Curtis Helms, a geologist, was amazed when he drove through the little Texas town of Orla, near the New Mexico border.

“Holy cow,” said Helms, director of the Petroleum Professionals Development Center at Midland College. “There’s man camps, RV parks, food trucks. You have to be careful not to get blown off the road by the tanker trucks whooshing by. It is crazy.”

To contact the author of this story: Dan Murtaugh in Singapore at dmurtaugh@bloomberg.net. To contact the editors responsible for this story: Ramsey Al-Rikabi at ralrikabi@bloomberg.net Anne Reifenberg Larry Reibstein.