May 19, 2017 / 6:38 PM / in 5 months

OPEC caught in vicious Permian cycle

The logo of the Organization of the Petroleum Exporting Countries (OPEC) is pictured on the wall of the new OPEC headquarters in Vienna March 16, 2010. OPEC oil ministers will gather for the 156th OPEC meeting in Vienna on Wednesday. REUTERS/Heinz-Peter Bader (AUSTRIA - Tags: ENERGY BUSINESS) - RTR2BP45

(Corrects OPEC share to around 1/3rd from 2/5th and global oil use to 95 million bpd from 80 million in para 7, also adds clarifying language and sourcing.Also correct name of U.S. EIA in para 4.)

By Lauren Silva Laughlin

DALLAS (Reuters Breakingviews) - OPEC is caught in a vicious Permian cycle. As President Donald Trump heads to Saudi Arabia, the oil cartel looks set to extend last year’s production cuts. Efficient U.S. wells in the Permian Basin and elsewhere, though, will benefit most and the extra supply they pump will limit any price increases.

New methods of shale drilling have turned the Permian into one of Earth’s richest oil regions. The area’s Wolfcamp shale formation alone may hold 20 billion barrels of black gold, making it the second-largest field in the world behind the Ghawar region in Saudi Arabia, the U.S. Geological Survey estimated in November.

Experience, technology and lack of government ownership of oil companies has also made the United States in general and the Permian in particular a cheaper place to drill. Running an existing well now costs as little as $35 a barrel, having fallen significantly over the past couple of years. Saudi Arabia’s absolute operating costs are lower, but its economy needs an oil price closer to $80 a barrel to hit what the IMF calls its “fiscal break even.”

American production has increased 10 percent since last summer, according to data from the U.S. Energy Information Administration, as oil prices have gone up, in part because of OPEC’s cuts. The increase to production, though, slightly lags a jump in oil prices. The EIA projects U.S. production will continue to grow to an estimated 10 million barrels per day in 2018, from an average 8.9 million barrels last year.

OPEC meanwhile, agreed in November to cut production by some 3.5 percent. On Friday members of a panel reviewing scenarios for the group told Reuters it was looking at extending those cuts through March 2018.

They may hope it’ll boost prices. Oil majors, though, don’t seem convinced. Exxon Mobil (XOM.N) and Shell (RDSa.L) are among those that have either sold or written off less profitable acreage in Canada and elsewhere to invest more in the Permian and other U.S. fields. Services companies Halliburton (HAL.N) and Schlumberger (SLB.N) want to develop new drilling technology that benefits drillers in the United States.

OPEC is still a major player, with its crude providing around a third of the 95 million barrels of oil products used globally each day, according to OPEC. And its members had 1.2 trillion barrels of reserves at the end of 2015, as much as 81 percent of the world’s stock. That’s why almost a dozen U.S. oil companies will be signing contracts with Saudi Aramco [IPO-ARMO.SE] while Trump is in Riyadh.

The cartel no longer has complete control over the price of a barrel, though. Its members’ gargantuan reserves may mean it could regain that if U.S. drillers keep pumping ever more oil and start exhausting reserves. That is a long way off, though. The U.S. inventory of crude oil and petroleum products jumped following discoveries in 2014. The country may sit atop as much as 264 billion barrels, according to a report by Rystad Energy last year, which would give it the highest reserves on the planet.

A sharp increase in consumption would also help OPEC. That looks unlikely, too. Oil demand in the first quarter of this year was weaker than the International Energy Agency had expected. In April the IEA predicted that demand would decrease for a second year in a row. It’s going to review those forecasts again after China and India signaled policy changes in favor of electric cars and vehicles, the agency told Reuters last week.

Meanwhile, alternative-energy sources, from natural gas to solar and wind, are accounting for an increasing amount of supply. In 2016, global renewable electricity generation grew by an estimated 6 percent and represented around 24 percent of global power output, according to the IEA. By the time OPEC is in a position to exert dominance over the Permian again, it may be too late.

On Twitter twitter.com/TheRealLSL

CONTEXT NEWS

- Saudi Aramco, the world’s biggest crude oil exporter, plans to sign agreements with 12 U.S. companies on May 20 including Schlumberger and Halliburton when President Donald Trump visits Saudi Arabia, according to a Reuters report.

- An OPEC panel reviewing scenarios for the oil-producer group’s meeting next week is looking at the option of deepening and extending a deal to reduce crude output, OPEC sources told Reuters on May 19, in an attempt to drain inventories and support prices. Saudi Arabia and non-OPEC Russia have agreed on the need to prolong current cuts until March 2018, the story said.

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