Oil companies weren’t prepared for crude to plummet.
That’s because many “companies ha[d] just completed their summer drill programs, and [were] going to continue their drill programs through the fourth quarter,” says Scott Vali, formerly vice-president, Equities, for CIBC Asset Management.
As a result, he adds, they really hadn’t adjusted their budgets or production levels to match the decline in the price of crude. In fact, “the drill programs [were] still largely unchanged from where they were when crude was trading at $100 plus per barrel.
“As [those] drill programs come to completion, we’re going to see those wells connected, and brought into the market. So that production will start to hit the market through the first half of 2015, and we believe that will continue to pressure the crude market.”
In fact, the second quarter of 2015 will be the most challenging of the year for the sector, Vali predicts, since “we’re [also] going to be moving into the typical shoulder season […] when the demand for crude seasonally is very weak because we don’t have winter heating demand and we don’t yet have the summer driving demand.”
As oil prices move lower, he adds, production companies will have to implement budget cuts. Already, in early December, “ConocoPhillips announced large budget cuts, [with] 20% of their budget [being] cut for the 2015 year.”
Then, “as we move into the second half of 2015 and the first part of 2016, we think we’re going to see the impact of those budget decisions. That means crude production will slow, [and] growth year-on-year will slow and actually start to fall away.”
The good news, says Vali, is “that is going to be the signal that the space is correcting itself.”
In the long-term, he adds, prices will settle in the US$70- to US$80-per-barrel range.
Currently, Vali is looking for companies that can withstand low commodity prices, especially since prices across North America are hitting multi-year lows and hovering around US$50 per barrel.
“We’re looking to take advantage of some of the issues that have come to the forefront, and for those companies that have quality core assets,” he says. “We’re looking for low operating costs, solid balance sheets, and [the ability of companies] to withstand lower crude prices throughout the next six to 12 months.”
Vali also plans to evaluate: where budgets are cut; who can continue to grow even at the lower level; and for those companies that pay dividends and what that means for their distributions.
He notes, “We’re already seeing some […] distributions cut today. As that filters through the market, there will be some opportunities that [come up], and we’ll look to deploy our capital.”