Deep-water Oil Profitable at $50/bbl by 2018 Adds to OPEC Woes

Citigroup says OPEC's warnings of an impending oil shortage are "overstated and misleading,"

Having spent the past week weathering brickbats for extending but not deepening its production cutback initiative, the Organization of the Petroleum Exporting Countries (OPEC) now faces even more bad news in the form of deep water drilling becoming profitable by as early as 2018.

According to Wood Mackenzie Ltd., as producers streamline and prioritize operations, extracting crude from seabeds - once widely thought to be unfeasible in a market of sub-$100 oil - will be profitable in some cases with prices as low as $50 by next year.

Wood Mackenzie had previously pegged the average break-even price of about $62 in the first quarter, and $75 in 2014.

Angus Rodger, director of upstream Asia-Pacific research for the consultancy, said, "There is life in deep water yet: when oil prices fell, many projects were deferred, but the ones that were deferred first were deep water because the overall break-evens were highest.

"Now in 2017, we're seeing signs that the best ones are coming back."

The disclosure presents a no-win scenario for OPEC: if the cartel is correct and evolving demand will create supply gaps in the foreseeable future, then the deep water projects will compete directly with OPEC oil to fill these gaps.

And if OPEC is incorrect and the global surplus persists, then deep-water will merely contribute to the glut - and presumably drag prices even further down than current levels.

Citigroup Inc. said in a report earlier this month that OPEC's warnings of an impending shortage are "overstated and misleading," while the growth of unconventional supplies like shale is "unstoppable" unless prices drop below $40 per barrel; the bank added that deep water production could grow by more than 1 million barrels per day (bpd) by 2022.

While deep water production is a specter looming on the horizon, those concerned about fundamentals were also troubled Wednesday by reports of a text message sent by Mustafa Sanalla, head of Libya's the state-run National Oil Corp., stating that due to crude output from that country's biggest oil field rising by 25,000 bpd to 250,000 barrels, Libya's total output has risen to 827,000 bpd.

This is the highest level since October of 2014.

Even though Russia this week made a bold show of praising OPEC's cutback extension and vowing to forge a permanent relationship with the cartel, the country's finance minister couldn't conceal his concern about rising production overall.

Anton Siluanov told CNBC that while the OPEC extension "should keep prices at the levels they are at present, and on the other it gives a signal to those companies which are extracting shale oil, particularly in the USA, by increasing levels of drilling, by increasing the levels of extraction, and in the final reckoning by the growth of offers on the oil market."

He added, "It is necessary to be ready for the fact that the possible surplus offers of oil will put pressure to lower the price."

Earlier this week, Goldman Sachs downgraded its 2017 price estimates to an average $52.92 per barrel from $54.80 for West Texas Intermediate, stating "We believe we are in a lower for longer environment until there is greater evidence shale deliverability is surprising to the downside or OPEC runs out of space capacity."