Fracking drillers in the US have held on for over a year against an all-out offensive by Saudi Arabia to drive them out of business. Focusing on their best performing wells, coming up with new technology to get more oil with less labor, and suspending exploration has allowed shale field production to survive much longer than anyone (especially the Saudis) expected.
However, the global oil glut is keeping crude prices near 11-year lows of $35 a barrel, and the frackers' bag of tricks is empty.
What Is Fracking?
Hydraulic fracking is a process where water, chemicals, and sand are injected at high pressure into subsurface shale formations. Oil-bearing shale is impermeable. Only the small amount of oil that has leaked out of the rocks can be normally be recovered. Fracking creates tiny fractures along the shale formation, releasing the trapped oil and gas.
Unfortunately, shale wells are very short-lived. The average fracking operation is nearly tapped out in five years. Repeated fracking of the well may unlock a bit more oil, but the usual procedure is to move on to the next site.
Unsustainable Prices Take Their Toll
Most fracking operations could cope with oil falling in price by half, to $50 a barrel. But once it fell to $40 a barrel, the writing was on the wall for the more leveraged companies.
Most companies in the shale fields are heavily in debt. Those that sold forward future production to lock in a price fared better than those who didn't in 2015. Even these companies are now trapped by a credit market that has completely dried up. The year-long global oil glut is expected to last at least through the first half of 2016. Banks are therefore shying away from further exposure to fracking companies. This means that shale developers are unable to get more loans. Their creditworthiness is putting some companies below junk bond status, preventing them from issuing new debt in a market suddenly afraid of distressed bonds.
There is approximately $99 billion of high-yield debt (read: junk bonds) issued by the energy sector that is now trading at depressed prices. This is a harbinger of more fracking companies defaulting. Bloomberg reports that at least nine oil companies declared bankruptcy in the fourth quarter alone. The energy sector accounted for the majority of the debt defaults in the US this year, making American companies the leader in defaults in 2015.
The Future Isn't So Rosy, Either
Even though 60% of US shale wells have been closed, national oil production is still within 4% of 43-year highs. Even though the Energy Information Agency forecasts that fracking production will drop by 570,000 barrels a day by the end of 2016, there is no sign that OPEC will lift its boot from the neck of its competitors. Iran caused crude prices the fall back to 11-year lows on news that it expects to increase production by 500,000 barrels a day over current levels. This means that global production will be an average of 1.5 million barrels of oil a day more than demand.
The global oil glut isn't just affecting US drillers. North Sea and Russian operations are also feeling the squeeze. Even Saudi Arabia is burning through its sovereign reserves, and is having to resort to tightening its belt to weather the storm. The Saudis apparently see oil prices being low for an extended time, as it implements budget cuts. The sheikhs seem unfazed by the plight of the poorer members of OPEC, and remains determined to stick to its path of driving the US fracking industry into collapse.
However, those shale wells have only been capped, not destroyed. As soon as prices recover, whether next year or ten years from now, it will be a quick and simple task to bring them back online and boost the US once again to the status of major oil producer.
The opinions and forecasts herein are provided solely for informational purposes, and should not be used or construed as an offer, solicitation, or recommendation to buy or sell any product.