PRICE QUESTIONS COOL INTERNATIONAL DRILLING

Jan. 29, 1990
International drilling will increase in 1990 as activity catches up with last year's crude oil price gains. But the increase will be modest because of lingering price uncertainty. Oil & Gas Journal projects the average active rig count outside the U.S. and Canada at 940-950, compared with an estimated 923 in 1989. Last year's tally was down from 1,023 in 1988, a year of price weakness. Some drilling increase seems inevitable after last year's price strength. Indeed, oil companies

International drilling will increase in 1990 as activity catches up with last year's crude oil price gains.

But the increase will be modest because of lingering price uncertainty.

Oil & Gas Journal projects the average active rig count outside the U.S. and Canada at 940-950, compared with an estimated 923 in 1989. Last year's tally was down from 1,023 in 1988, a year of price weakness.

Some drilling increase seems inevitable after last year's price strength. Indeed, oil companies are raising exploration-production budgets for 1990, according to a Salomon Bros. Inc. survey.

More than 200 companies covered in the survey reported plans for a total upstream spending increase of 10.5%, with non-U.S. spending due the greatest growth.

The budgets are based on average oil price expectations of $18.37/bbl in 1990-21% more than the expected price reflected in Salomon Bros.' survey a year earlier.

But companies will be wary of prices significantly below expectation and may curtail spending at the first sign of problems.

OGJ assumes an average price for world export crudes of $16.50/bbl for 1990 vs. $16.64/bbl for all of last year, when drilling declined. It also assumes that in 1990 drilling plans will depend more on price stability than year-to-year comparisons of absolute prices.

And stability depends on the ability of the Organization of Petroleum Exporting Countries to adjust its production to seasonal demand swings.

THE CALL ON OPEC CRUDE

The first test will come soon. Demand seems likely to undershoot not only OPEC's recent production levels but also the significantly lower group quota set in November for the first half.

International Energy Agency (IEA) expects total consumption of petroleum products in traditionally free market countries to average 53.8 million b/d for the first quarter of 1990. Consumption will fall to 50.9 million b/d in the second quarter and 52 million b/d in the third. These levels represent gains of 1-1.2 million b/d from the same periods a year earlier.

IEA estimates that new supply (excluding stocks) from sources outside the Organization of Petroleum Exporting Countries will average 29.5 million b/d in the first and third quarters and 29.4 million b/d in the second quarter.

So stocks or OPEC liquids production will have to meet remaining demand: 24.3 million b/d in the first quarter, 21.5 million b/d in the second quarter, and 22.5 million b/d in the third quarter.

If the stock drawdown in the first quarter is 2.5 million b/d, a level similar to the last 2 years, demand for OPEC crude oil and NGL will be 21.8 million b/d. With OPEC NGL and condensate output averaging 1.9 million b/d, demand for OPEC crude oil falls to 19.9 million b/d for the first quarter of 1990 from 23.2 million b/d in the fourth quarter of 1989.

With no additional supply coming from stock drawdown, demand for OPEC crude will dip to 19.6 million b/d in the second quarter then climb to only 20.6 million b/d in the third quarter.

If there is a stock buildup comparable to last year's, demand for OPEC oil could be 1 million b/d higher in the second and third quarters. However, total stocks were up substantially at the end of 1989 so the midyear stock build is likely to be less.

These calculations illustrate the petroleum industry's uncertainty over price. Projections of quarterly demand for OPEC crude oil fall below the first-half 1990 OPEC quota of 22 million b/d. And OPEC is estimated to have ended 1989 producing at above quota.

IEA estimated fourth quarter 1989 OPEC crude oil production at 23.2 million b/d-3.3 million b/d more than expected demand for OPEC oil during the first quarter of 1990.

To prevent prices from dropping substantially following the winter heating season, OPEC will have to adjust production levels to accommodate this drop in demand. If OPEC members continue to produce above quota or even insist on producing at quota, the excess crude in the market will depress prices. Failure by OPEC to adjust production accordingly will make possible a price slump like those of 1986 and 1988.

OPEC PRODUCTION

OPEC's average production jumped to 21.6 million b/d last year from 19.7 million b/d in 1988. Output averaged 19.9 million b/d in the first quarter last year, 21.1 million b/d in the second, 22.1 million b/d in the third, and 23.2 million b/d in the fourth.

Demand for OPEC oil surged on the strength of a decline in non-OPEC production, mostly from temporary factors such as platform accidents in the North Sea and the Exxon Valdez crude spill.

Much of this non-OPEC production has returned and will displace OPEC oil in 1990. Production in industrial countries fell to an average of 16 million b/d last year. It is expected to move back up to 16.2-16.3 million b/d in 1990.

In addition, IEA projects production in developing countries will increase 300,000-400,000 b/d. Total non-OPEC output, therefore, will climb by 500,000-700,000 b/d in 1990.

What that means is that not all the projected consumption gain will raise the call on OPEC oil. If there is no change in the stock level from yearend 1989 to yearend 1990, year-long demand for OPEC crude oil will average 21.6 million b/d-the same as in 1989 and close to the present quota.

If OPEC kept production close to the quota all year, it would be able to balance the oil market in 1990. But the seasonal fluctuations in demand will create problems. Demand for OPEC oil will weaken in the first and second quarters. If OPEC members insist on producing at current levels, the excess output will suppress prices--as early as the next couple of months.

THE 1989 PRICE GAINS

OPEC started 1989 with production close enough to quota to enable prices to move up.

The average price of world export crude rose to $15.04/bbl in January from $13.07/bbl in December 1988. A drop in non-OPEC production in the second quarter pushed the average to $17.30/bbl.

The price weakened slightly in the third quarter to $16.17/bbl then jumped to $17.42/bbl in the fourth.

One element of second half price strength last year was the stock building that created a supply that might weaken the price in the first quarter of 1990.

If the buildup occurred to accommodate increased demand, it will not cause any major problems early this year.

But if there's any unanticipated weakness in demand, the stocks will be released, reducing demand for OPEC oil and pushing prices down.

LAST YEAR'S DRILLING

The 10% drilling decline last year outside the U.S. and Canada came despite a 21% increase in the average crude price.

But the drop occurred for reasons beyond the oil market. Most of the drilling decline occurred in Latin America, where the November active rig count by Baker Hughes was down 95 from a year earlier to 234.

And most of the Latin American drop occurred in two countries-Mexico, down 65 from a year earlier, and Brazil, down 19.

Both countries have severe economic problems necessitating deep cuts in the budgets of the state owned companies responsible for most of their drilling-all of it in Mexico's case.

Other financially troubled Latin American countries have been pushing exploration licensing as a way back to economic health.

Argentina, Ecuador, Peru, and Columbia, for example, have active licensing programs under way.

Most new licenses involve work commitments that will lift Latin American drilling as programs reach the drilling stage.

In other regions, late 1989 rig counts were close to their levels of 1988. The Asia-Pacific count was up 1 at 286, Africa down 8 at 90, the Middle East down 1 at 147, and Europe down 6 at 147.

As in Latin America, licensing activity has been brisk in many countries. That won't prevent a drilling sag if crude prices slump again, but it does mean companies can significantly increase activity if prices rise or at least stabilize at healthy levels.

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