U.S. shale executives often boast of low breakeven prices, reassuring investors of their ability to operate at a high level even when oil prices fall. But new data suggests that the industry slowed dramatically in the fourth quarter of 2018 in response to the plunge in oil prices.
A survey from the Federal Reserve Bank of Dallas finds that shale activity slammed on the brakes in the fourth quarter. “The business activity index—the survey’s broadest measure of conditions facing Eleventh District energy firms—remained positive, but barely so, plunging from 43.3 in the third quarter to 2.3 in the fourth,” the Dallas Fed reported on January 3.
The 2.3 reading is only slightly positive – zero would mean that business activity from Texas energy firms was flat compared to the prior quarter. A negative reading would mean a contraction in activity.
The deceleration was true for multiple segments within oil and gas. For instance, the oil production index fell from 34.8 in the third quarter to 29.1 in the fourth. The natural gas production index to 24.8 in the fourth quarter, down from 35.5 in the prior quarter.
But even as production held up, drilling activity indicated a sharper slowdown was underway. The index for utilization of equipment by oilfield services firms dropped sharply in the fourth quarter, down from 43 points in the third quarter to just 1.6 in the fourth – falling to the point where there was almost no growth at all quarter-on-quarter.
Meanwhile, employment has also taken a hit. The employment index fell from 31.7 to 17.5, suggesting a “moderating in both employment and work hours growth in the fourth quarter,” the Dallas Fed wrote. Labor conditions in oilfield services were particularly hit hard.
The data lends weight to comments made by top oilfield service firms from several months ago. Schlumberger and Halliburton warned in the third quarter of last year that shale companies were slowing drilling activity. Pipeline constraints, well productivity problems and “budget exhaustion” was leading to weaker drilling conditions. The comments were notable at the time, and received press coverage, but oil prices were still high and still rising, and so was shale output. The crash in oil prices and the worsening slowdown in the shale patch puts those comments in new light.
What does all of this mean? If oil producers are not hiring service firms and deploying equipment, that suggests they are rather price sensitive. The fall in oil prices forced cutbacks in drilling activity. Oilfield service firms in particular are bearing the brunt of the slowdown. Executives from oilfield service firms told the Dallas Fed that their operating margins declined in the quarter.
In fact, roughly 53 percent of the oil and gas executives that responded to the Dallas Fed’s survey said that the recent drop in oil prices caused them to “lower expectations for capital spending” in 2019. A further 15 percent said that it was still too early to make a decision on capex changes. Only 31 percent of oil executives who responded to the Fed survey said that the oil price downturn would not affect their spending plans.
The oil rig count climbed for much of 2018, but began to level off in the third quarter. The rig count, which stood at 885 in the last week of December, has barely budged since late October when prices began to fall.
The downturn is still in its early days. It takes several months before the rig count really begins to respond to major price movements. The same is true for a string of other data – production levels, inventories, as well as capex decisions.
In other words, some early data points already suggest that the U.S. shale industry could struggle if WTI remains below $50 per barrel. But the longer WTI stays low, the more likely we will see a broader slowdown.
By Nick Cunningham of Oilprice.com