3 Ominous Signs That Crude Prices Will Remain Low

There are further signs that oil prices will remain low. Husky Energy Inc. (TSX:HSE) and Imperial Oil Ltd. (TSX:IMO)(NYSE:IMO) should be OK, but this could push struggling smaller oil companies like Penn West Petroleum Ltd. (TSX:PWT)(NYSE:PWE) to the wall.

| More on:
The Motley Fool

If investors have been feeling the bite of sharply lower crude prices, then they better brace themselves for even tougher times ahead. The sharp collapse in oil prices has hit Canada’s energy patch hard and there are signs that the current harsh operating environment created by weak crude prices will continue for some time. 

Now what?

In the last week alone we have witnessed the emergence of three headwinds that are set to keep prices low despite some pundits claiming the recent oil rally will continue.

Firstly, OPEC recently decided to maintain its oil output and continue flooding the market with crude, despite the global supply glut. This is part of its strategy aimed at regaining market share by keeping prices low so as to force higher cost U.S. shale oil producers out of the market.

Even after the recent rally that now sees WTI at US$60 per barrel, it is still below the breakeven cost for many shale oil projects.

However, it is not shale oil producers who are the most vulnerable, it is Canada’s oil sands, with many projects having breakeven costs well in excess of the current price. For example, Husky Energy Inc.’s (TSX:HSE) Sunrise oil sands project has breakeven costs of $82 per barrel, while Imperial Oil Ltd.’s (TSX:IMO)(NYSE:IMO) Kearl expansion has breakeven costs of US$95 per barrel.

Secondly, U.S. oil output recently hit a new record and its highest point in 43 years despite falling rig counts and investment.

Hard to believe isn’t it?

You see, even with the U.S. rig count declining by 55% from its October 2014 peak to its lowest level in 12 years, U.S. oil output continues to grow. This is because while oil producers are shutting rigs and closing wells, they continue to boost production at lower cost operations in order to maintain cash flow.

Lower prices have also compelled U.S. oil producers to focus on finding efficiencies and slashing costs in order to make their operations sustainable. This means that many are now finding they can remain profitable even at lower oil prices.It is therefore unlikely that there will be the reduction in output that is required to eliminate the global supply glut and boost prices.

Finally, the ever present threat of the Fracklog has again reared its ugly head. It is estimated there are now over 4,000 oil wells in the U.S. that have been drilled but not completed. These are estimated to hold an additional 500,000 barrels of daily oil production and now with WTI at US$60 per barrel it is approaching the point where it is economical for producers to turn on the spigot.

With this representing a fifth of the current global supply glut, the introduction of this volume of crude would have a dramatic impact on prices.

So what?

The threat of yet another drop in crude prices is quite real, but even if this doesn’t occur it is hard to see oil prices rallying any higher over coming months. This isn’t such a problem for integrated energy majors like Husky or Imperial Oil, which can offset lower oil prices with higher margins from their refining operations. But it could be the death knell for deeply indebted and troubled smaller upstream producers like Penn West Petroleum Ltd. (TSX:PWT)(NYSE:PWE).

This article represents the opinion of the writer, who may disagree with the “official” recommendation position of a Motley Fool premium service or advisor. We’re Motley! Questioning an investing thesis — even one of our own — helps us all think critically about investing and make decisions that help us become smarter, happier, and richer, so we sometimes publish articles that may not be in line with recommendations, rankings or other content.

Fool contributor Matt Smith has no position in any stocks mentioned.

More on Energy Stocks

Arrowings ascending on a chalkboard
Energy Stocks

Beat the TSX With This Cash-Gushing Dividend Stock

Canadian Natural Resources stock is well set up to beat the TSX as it continues to generate strong cash flows…

Read more »

energy industry
Energy Stocks

2 TSX Energy Stocks to Buy Hand Over Fist Now

These two rallying TSX energy stocks can continue delivering robust returns to investors in the long term.

Read more »

green energy
Energy Stocks

1 Magnificent TSX Dividend Stock Down 37% to Buy and Hold Forever

This dividend stock has fallen significantly from poor results, but zoom in and there are some major improvements happening.

Read more »

oil tank at night
Energy Stocks

3 Energy Stocks Already Worth Your While

Here's why blue-chip TSX energy stocks such as Enbridge should be part of your equity portfolio in 2024.

Read more »

Solar panels and windmills
Energy Stocks

1 Beaten-Down Stock That Could Be the Best Bet in the TSX

This renewable energy stock could be one of the best buys you make this year, as the company starts to…

Read more »

Dice engraved with the words buy and sell
Energy Stocks

Is Enbridge Stock a Buy, Sell, or Hold?

Here's why Enbridge (TSX:ENB) remains a top dividend stock long-term investors may want to consider, despite current risks.

Read more »

Gas pipelines
Energy Stocks

If You Had Invested $5,000 in Enbridge Stock in 2018, This Is How Much You Would Have Today

Enbridge's high dividend yield hasn't made up for its dismal total returns.

Read more »

Bad apple with good apples
Energy Stocks

Avoid at All Costs: This Stock Is Portfolio Poison

A mid-cap stock commits to return more to shareholders, but some investors remember the suspension of dividends a few years…

Read more »