Oil drops like a rock – is it good or bad?

15 Dec

So the price of oil broke through $70 this month and who knows where it will settle or how long before it comes up again.  Living in the Houston, Texas are (Sugar Land is a suburb), everyone is touched by the oil & gas industry, so everyone talks about the happenings in the oil patch incessantly (including me).  I thought that I’d bring out some interesting comments that I have heard lately:

Comments that have surprised me…

Of course everyone is talking about how Saudi Arabia is trying to squash the Eagle Ford and Bakken shale oil production in the U.S., but when I discussed this with one individual in government they said, “Saudi Arabia is actually helping the United States deal with Russia.  Russia makes most of the money that balances its budget and allows it to exert control over the world through gas sales in the winter and oil sales to Europe and Asia.  With oil prices below $90, Russia is running deep in the red and it can’t afford to mess with the gas supply to Europe through made up “pipeline problems’.

Here some proof – the Ruble is being sold off hugely and the dollar is up – which helps Saudi Arabia and the U.S. as Saudi Arabia holds lots of U.S. Treasuries.  See the Wall Street Journal article entitled ‘Sell Off in Russian Ruble steps up‘.

To add to that, Saudi Arabia needs oil at $93 to balance its own budget.  See this older article in the Wall Street Journal entitled “Oil-Price Slump Strains Budgets of Some OPEC Members.’  There is an updated article from December that shows Russia as well.  The reason Saudi Arabia can survive and thrive with lower oil is because it has a couple of years of monetary reserves to withstand just such a price slide.

Oil companies clean house

Now for the bad news – oil companies are cleaning house again.  It seems every time there is a slump in oil prices, every oil company and oil services company announced layoffs.  Here are some of the highlights:

– ‘BP to spend $1 billion to cut jobs, restructure‘, HBJ on December 10

– ‘Halliburton to cut 1,000 jobs‘, HBJ on December 11; it should also be noted that Halliburton just bought one of its largest rivals and probably wanted to thin the ranks already, so what a perfect time to double down on the layoffs

Why not control their hiring practices and hire more slowly?  That’s what most other industries do.  In the oil industry though, companies need to bulk up almost instantaneously to take advantage of the opportunities that present themselves – take the Eagle Ford for instance.  When the money became available, let’s say 2010 through today is only four years and estimates of as many as 200,000 people work in that play today – zero to that is a huge growth rate.  And the Bakken and other plays are just as large in numbers.

Because of the huge run up in people needed, the large players don’t have the opportunity to thin the ranks and cull out inefficient managers and other employees, so when a downturn happens, every company takes the opportunity to do so.

So what oil play do I believe will be en vogue now?

I believe that oil will hover in this low price ($55 – 85) level for no more than two years and then move up to the level we have seen for the previous couple of years ($85 – 105).  Why?  Well, if you look at the OPEC producers, Russia and the U.S., we all would rather see oil at $100 than $50 – and most of their budgets depend upon oil being high.

When I look at Exxon, I see a bank.  Exxon funds projects for the next fifty to seventy five years, so a blip in the price of oil today rarely if ever effects their long term planning.  In fact, Exxon recently said they do their projects planning for $40 oil – all of us should look for oil projects that make sense at the level, but alas, most of those projects require billions of dollars and not the millions of dollars that most of us could put together (or tens of thousands of dollars that just about anyone could put together for a project).  Take a look at this article entitled ‘Exxon: North America will be a net exporter, oil will last 150 years‘ in the HBJ.

For me, I continue to like investing in stripper wells – wells that produce less than 10 BOPD (barrels of oil per day) or 60,000 cubic feet (Mcf) of natural gas per day.  The cost is low, sometimes as little as $25,000 per well for drilling and completion, and the plug and abandonment (P&A) liability is low as well.  Normally these come in packages containing many wells – I saw one with 500 wells the other day.

Copyright © 2014 by Rhodes Holdings LLC, all rights reserved.


Posted by on December 15, 2014 in BLOG, Business


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2 responses to “Oil drops like a rock – is it good or bad?

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