Oil is recovering from its most recent depths, but will it ever go back up to $100 a barrel?
In this Industry Focus: Energy segment, Motley Fool analysts Sean O'Reilly and Taylor Muckerman explain how OPEC intervention and decline curves could possibly lead to a full $100 recovery in the price of oil, and what would have to happen for prices to shoot so high again. Find out what the decline curve is and what it means for producers, how possible it is that OPEC would overshoot planned cuts and create a significant shortage, where deepwater wells fit into the supply picture, and more.
A full transcript follows the video.
This video was recorded on May 16, 2017.
Sean O'Reilly: So, what would it take, Mr. Muckerman, and you're going to be aided by Mr. Matthew DiLallo, TMFmd19, he also has a Twitter handle, MatthewDiLallo. He has a really cool piece on the top of Fool.com right now, "Here's What Would Need to Happen for Oil Prices to Get Back to $100" per barrel. First reason, we probably need to explain the second one a little bit more, but, OPEC overshoots, and it gets into what we were just talking about. Is it possible that, with the supply cuts and the lack of investment and their desire to get inventories to their five-year average, they overshoot? Because not only do we not have great data on them -- I wonder how good of data Saudi Arabia has on Venezuela, do you know what I mean?
Taylor Muckerman: I don't know, I feel like they probably share quite a bit inside the consortium of OPEC countries.
O'Reilly: I would think it would leak, then.
Muckerman: This is not the White House, Sean, this is OPEC. They're tight. They run a tight ship. This is their country at stake, they're not going to leak that kind of stuff.
O'Reilly: [laughs] Are you salty about what's going on?
Muckerman: [laughs] No, just being topical. Yeah, I mean, it's very possible. They obviously didn't think that U.S. producers were going to ramp up this quickly, so they underestimated. Maybe they have a chance to overestimate their own ability to cut. And maybe like you said, underinvestment by other companies around the world catches up to them. I don't know if that will catch up to us in the next nine months. But it's possible, for sure.
O'Reilly: I know we've talked about this in the past, and gosh, we were talking about this when Tyler Crowe was a regular guest -- we miss you, Tyler. Come back soon. Actually, I should probably have him on.
Muckerman: Yeah, you should have him on.
O'Reilly: But, the decline curve never sleeps. Really quick, for anybody that's new, what the heck is a decline curve?
Muckerman: It's basically the curve of production for an individual well, or a collection of wells. Basically, they have decline curves for each individual well, so you can see the initial production and then production over the time. And generally shale wells have a steeper decline curve, meaning the average daily production declines more rapidly than a conventional well, like a Saudi Arabian well or offshore oil. Conventional generally has a much flatter decline curve. You're talking about losing significant percentages of overall production in a very short amount of time, which is why they've been drilling so much in the shale regions. Because you have to keep up production.
O'Reilly: The best analogy I've ever heard, and for anybody who ever asks me at a Christmas party or something, it's a kiddie pool in the backyard. You have a pool, and you're draining it at the end of the day, and you pull the drain plug on the side, water comes rushing out at first, and that's the first couple of days or months of these wells. Towards the end, when there's not a lot of volume pushing out --
Muckerman: Yeah, you're losing your pressure.
O'Reilly: -- it comes out as a trickle, and that's what we're talking about here. So, if you're not investing in new wells, if you're not drilling new wells, eventually production runs out, and that's what we're talking about here. This has been a major thing with the CEO of Core Labs. He talks about the decline curve a lot. And they have a lot of amazing data on --
Muckerman: They're not talking about their stock price. [laughs]
O'Reilly: God. What did you think about that bear case, by the way? Sidebar.
Muckerman: I definitely agree, and I've said it before, that this company's future was relying on offshore, deepwater oil.
O'Reilly: And if that's not happening ...
Muckerman: If that's not happening, then a lot of projections for this company's success in the next five or 10 years need to be reevaluated. And that was one of the points that was brought up the Sohn Conference, that deepwater isn't doing what they expected.
O'Reilly: Right. Because deepwater, even with the technology advancements, as I understand it, it needs $70-$80 for people to be thinking about it.
Muckerman: Yeah. Those rigs cost a lot of money, the day rates with staffing ...
O'Reilly: The risk, the hassle. You're going 3,000 feet beneath the surface of the ocean --
Muckerman: Before you even start to drill.
O'Reilly: Yeah. It does sound like a bit of a pain. So, this has been a major bull case put forth by the Core Labs CEO. The report that DiLallo cites notes that the industry needs to develop 2.8 million barrels of new production capacity per day just to offset declining and depleting legacy output, which isn't something shale alone can handle at current oil prices. This goes on to say that that actually needs to happen by the end of the decade. So, whoever, Saudi Arabia, Venezuela, China, whoever, needs to go find 2.8 million barrels of daily oil production at some point in the next couple years, otherwise there's going to be a supply shortage by the end of the decade.
Muckerman: I don't know, I think they already have it found, it just needs to be justified to drill it.
O'Reilly: OK. So, you think they know where it is? Then you get into the offshore stuff you were just talking about.
Muckerman: Yeah, Venezuela has the largest oil reserves of any country in the world, but they can't produce it, because they can't produce it at the right price. So, once they can, that oil will be there. It just depends on if the price justifies being able to produce it.