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The ever changing world of oil and LNG Consultant reviews global hydrocarbon market dynamics in the light of OPEC oil cut agreement and continuing low LNG prices ALAN BAILEY Petroleum News
Characterizing the recent OPEC agreement to reduce crude oil production as an experiment to test the global oil market, Paul Carpenter, principal and chairman of the Brattle Group, told the Law Seminars International’s Alaska Energy Markets and Regulation conference on Dec. 12 that it remains to be seen what long-term impacts the production cuts may have. At the same time, a glut in global liquefied natural gas supplies is continuing to put downward pressure on spot LNG prices, further undermining the economics of new LNG projects, Carpenter said.
The OPEC production cut With an agreement on Dec. 10 for oil production cuts by several non-OPEC countries, to bolster the OPEC deal, the global crude oil supply is set to drop by about 2 percent. Given that the cut is only committed for six months, it appears that Saudi Arabia wants to test the oil price and supply effects over a short time period, Carpenter said. They may not have wanted to signal a long-term cut, because that would have automatically triggered an increase in production from U.S. shale, he suggested.
The immediate oil price response was a 10 to 15 percent increase, with a further 6 percent increase in the futures market following the non-OPEC cut commitments. And, in terms of the active drilling rig count, the response to the rise in price is already occurring in North America.
The OPEC cut, which is due to go into effect on Jan. 1, would restore OPEC production to levels seen in 2012, Carpenter said. Since that time, non-OPEC production has increased by a cumulative 5.5 million barrels per day, a volume larger than the OPEC cut. So, while the OPEC cut is symbolically important, in the long term it may not prove particularly significant, Carpenter suggested.
With U.S. crude oil stocks remaining at all-time highs, will the recent oil price increase cause building of oil stocks to stop? A drop in the tendency to store oil would reduce oil demand and potentially soften the oil price, Carpenter suggested.
Falling cost of shale oil The cost of shale oil production in the United States continues to fall. And there is a large amount of shale oil to produce - the estimated resource volumes in the Wolfcamp shale, for example, have recently been reported as more than in some of the Middle East fields, Carpenter said. A key is the oil supply curve, the plot of oil production costs versus incremental oil production for different oil provinces. U.S. shale oil has moved towards the lower cost end of that curve. And it is essential to look at the curve when assessing Alaska’s place in global oil supplies, Carpenter suggested.
A lot of oil can continue to be produced at less than $50 or $60, and potentially at less than $40, Carpenter said.
He suggested three possible reasons for the continuing cost reductions in shale oil development: learning from doing it, falling equipment and labor costs and the improved ability of producers to find and develop the productive “sweet spots” in shale oil plays. The future supply situation depends on which of those three explanations turns out to be correct. The “sweet spot” explanation would suggest that the shale oil boom might be more short lived than would be the case if “learning from doing” prevails.
LNG decouples from oil From the perspective of global LNG markets, the gap between high oil prices and the price of LNG has collapsed, thus removing a key factor that was thought to drive the signing of long-term LNG contracts and initiation of new LNG projects. So will oil economics continue to play a significant role in LNG economics, and will future LNG contracting be linked to the oil price, Carpenter wondered. It does appear that future LNG projects will simply compete on the basis of the economics of the feedstock gas, infrastructure costs and distance from LNG markets, he said.
Meanwhile, global LNG prices have converged at a level of $6 to $7 per million Btu. And, at those current LNG prices, the economics of almost all currently proposed LNG projects are under water, Carpenter said.
But exports from the U.S. Gulf Coast started this year, with half of the exports going to South America. One cargo has now shipped to China through the newly widened Panama Canal, thus demonstrating that the shipment of U.S. LNG through the canal can prove viable. But the cost of LNG from the U.S. Gulf Coast appears higher than the prevailing world price of the commodity, unless the cost of liquefaction is covered by the supply contract.
Projections of world LNG demand between 2025 and 2040 suggest that India and China will continue to drive that demand. But China does have alternative potential gas supply possibilities in the form of Russian pipeline gas and domestically produced gas, Carpenter pointed out.
Another consideration is the interaction between LNG demand and the use of renewable energy sources - with the cost of wind and solar power dropping, renewable energy may become competitive on price with natural gas for power generation.
Outside the United States, LNG exports from Australia and New Guinea are increasing. Canadian LNG projects have run into economic and environmental difficulties. The United States, meanwhile, has five projects under construction.
An LNG shortfall in 2025? However, based on projections of future LNG demand compared with future LNG production, there is a potential shortfall in supply versus demand that would emerge around 2025. So, could Alaska be competitive in that future market, and what are the main risks to an Alaska LNG project? Alaska is competitive in terms of the gas feedstock, but its big cost is the required pipeline and liquefaction infrastructure. Reducing those fixed infrastructure costs in Alaska is critical, Carpenter said.
On the other hand, an increase in gas prices in the Lower 48 would be to the benefit of Alaska, as the Gulf Coast projects would then become uneconomic. With the price of oil no longer a factor in the LNG market, the critical issue for Alaska is being competitive with other projects, Carpenter said.
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