While the Midland-to-Cushing oil price differential blew out to as high as $16 per barrel (bbl) over the summer, and still stands at about $10 in early November, it’s not why you might think. It’s not about pipeline constraints—yet, according to Midland producer and resident Steve Pruett. Speculators and a media frenzy are to blame for low oil prices in the Permian Basin.

“What’s frustrating about takeaway concerns is it’s a fear that hasn’t come to pass yet, other than it’s been evidenced by the Midland-Cushing differential blowout,” he said. “I have yet to find an operator, including myself, that has had their oil production curtailed in the field.”

Pruett is co-founder, president and CEO of Elevation Resources LLC, a Midland-based operator backed by Pine Brook Partners. The private producer targets unconventional opportunities in Andrews County, Texas, on the Central Basin Platform.

The brouhaha began in first-quarter 2018 when the Permian growth rate increased dramatically. The financial markets saw that, took notice of the timing of new pipeline capacity scheduled to come online, and identified a gap. “So, the speculators entered the Mid-Cush market and blew that differential out, anticipating that future gap.”

Now, one could argue that the anticipated pipeline constriction was ultimately staved off by the market’s gasp, as the resulting price drop body slammed the Permian price at the wellhead. As a result of the price—not the pipe—operators took their feet off the accelerator and the growth rate dropped.

“It’s impacted our cash flow, thus it’s impacted what we’re able to drill and complete,” noted Pruett. “People on the street ask me, ‘Aren’t you enjoying $70 oil?’ I say, ‘No, I’m getting paid $53/bbl because of this Midland-Cushing differential.’”

Some E&Ps are still drilling but not completing—building the DUC (drilled but uncompleted wells) inventory while keeping the rig count relatively flat.

However, the larger Permian players, who are protected from pipeline constraints via firm takeaway agreements and from local differentials with Gulf Coast pricing, still aren’t drilling ahead with the tailwind. What gives?

“It’s actually the Wall Street-enforced capital discipline message that’s driving them to take the foot off the accelerator,” said Pruett. “They’re exceeding their capital guidance and their free cash flow, and Wall Street has penalized companies quarter after quarter for exceeding guidance on capital. That’s creating a response by companies to dial back their drilling rig count, their completions, such that they’re not going to exceed their guidance in the fourth quarter.

“So I think this is a temporary measure related to the capital discipline enforced by Wall Street—not as much the concerns about takeaway.”

Other factors, as well, are curtailing Permian activity unrelated to pipelines. Water availability for completions has certainly trimmed the sails of some operators, including Elevation.

Elevation found its tap dry when its water supply was diverted to a power generating plant due to the Permian power load achieving record levels. “Our water we used for fracking was sold at a cheaper rate for the public good to the city of Odessa, and we didn’t have the water we needed to frack. So we released the rig and delayed the frack job until we were able to find an alternative, more expensive source of water.”

Similarly, trucking and people logistics have had a direct impact on Permian producers’ ability to bring production online. For example, Elevation was forced to delay a completion job in progress earlier this summer because of a lack of truck drivers to keep the blender loaded.

“And I’ve heard from other operators that there are constraints on delivering sand. Many operators are dealing with that by putting huge silos on their locations and storing up all the sand they’re going to need for their entire job before the job begins. But at the end of the day someone has to deliver the sand to the location.”

To date, it’s not the pipes that are curtailing activity in the Permian. But that could change. The New Year will bring new guidance projections, which are typically running 10% to 15% higher than 2018 guidance plans, Pruett said.

“We will see the foot back on the accelerator. We’ll see rig count grow and these DUCs worked off. If we resume the 50,000 to 100,000 barrels a month of growth, we’ll have a problem sometime mid-next year.”

Temporary is the governing theme, he emphasized, with physical curtailments lasting one to three months at a time until incremental new capacity comes online, a trend that will play out over a couple of years until a balance is reached.

Just don’t ask Pruett what happens after that. “The refineries don’t need any more of our light sweet crude, and the gas market doesn’t need all of our gas.” The next bottleneck downstream is export capacity and demand. Stay tuned.

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