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Will capex cuts by E&P companies affect oil prices?

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Companies respond to falling prices by slashing capex

Many companies apart from ConocoPhillips (COP) responded to falling oil prices by cutting their capital expenditure (capex). Conoco cuts its 2015 capex by ~33%. Other companies who resorted to capex cuts include Occidental (OXY), which cut its capex by similar levels as COP, or 33%, and Hess Corp (HES), which cut its capex by 16%. All these companies are components of the Energy Select Sector SPDR ETF (XLE).

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Production and oil prices

As oil companies reduce their spending and drilling activity, this might lead to a perception that production will decrease. This may in turn have a positive effect on crude prices. Oil prices are already up after BP plc (BP) joined the crowd of companies exercising capex cuts, by announcing a 13% capex cut of its own. Prices are back in the early $50s after touching sub-$45 levels in the past weeks.

However, despite the reduction in capex, some companies still plan to achieve production growth in 2015. For example, Conoco provided a production guidance of 2–3% growth in 2015. Likewise, Occidental production plans to grow by 6%–10% in 2015.

How can production grow despite lower capex?

Conoco is confident that its production growth will grow by approximately 3%, driven by a combination of new projects such as APLNG (Australia Pacific liquid natural gas), which is expected to ramp up production in mid-2015. The production will, however, reach peak production rates in 2017. Oil sands projects (Sumount 2) are also expected to come online in mid-2015.

US conventional portfolio or the Lower 48 will also help achieve this growth in the early part of the year. Eagle Ford and Bakken are expected to grow by 10%–15% in the first half, and it may see a slow decline toward the end if Conoco decided to leave its rigs counts unchanged. The average production year-over-year growth is still expected to be positive, despite the decline in Lower 48 production toward the end of 2015.

Outlook for oil prices

If there is no threat to production in 2015, oil prices are likely to remain low. Oil inventories are already at their record highest at ~407 million barrels according to last week’s EIA inventory report. It looks like supply and demand issues will continue to rule 2015 oil prices.

Keep watching Market Realist’s Energy and Power page for more news on the energy sector.

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