Why Oil Stocks Are in Rally Mode Today

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What happened

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Oil prices turned upward today, with WTI, the U.S. oil price benchmark, rising roughly 2% by 10:45 a.m. EDT. Fueling that rally was news that U.S. producers are starting to cut their output in a move that will help ease the glut of oil filling up storage terminals around the country. Those dual catalysts sent most energy stocks soaring, including shares of several major producers. Among the notable movers were Continental Resources (NYSE: CLR)Apache (NYSE: APA)Diamondback Energy (NASDAQ: FANG), and Murphy Oil (NYSE: MUR), which were all soaring more than 10% by early-morning trading. Meanwhile, oil giant ExxonMobil (NYSE: XOM) also rallied today, rising more than 5% by midmorning.

So what

One of the main catalysts for the rise in oil prices and the shares of producers was a report that U.S. shale drillers are about to start cutting output. Continental Resources executive chairman Harold Hamm told S&P Global Platts that he believes U.S. producers will voluntarily slash their production by 30% to 35% in the near term. However, he said that this wasn’t in response to a coordinated effort with OPEC but because there isn’t enough demand or storage space.

Hamm’s company followed through on those comments by being the first U.S. producer to reduce its production. Continental expects to slash its output by 30% in April and May. That’s in part because a CVR Refining (NYSE: CVI) facility in Oklahoma asked the company to reduce the amount of oil it supplies to the refinery by 25% due to lack of demand. Before voluntarily reducing its output, Continental anticipated that its production would naturally decline by about 5% this year because it had cut its drilling budget and wouldn’t complete enough new wells to offset the lost output from legacy ones.

Meanwhile, ExxonMobil joined the growing number of producers that have slashed spending. The oil giant cut its capital budget by $10 billion, or 30%, and also aims to reduce its operating expenses by 15%. While Exxon isn’t joining Continental in reducing its output, the budget reduction will affect its production in the coming months because the company won’t complete as many new wells in the Permian Basin as initially expected. It predicts its output in that region will decline by 15,000 barrels of oil equivalent per day, with an even deeper cut coming in 2021, given the timing of its well completion program. However, the company plans to maintain its dividend. That’s something Continental isn’t doing; it suspended its payout today.

The Permian production of Diamondback Energy and Apache will also fall this year due to previously announced spending cuts. Apache has stopped drilling in the region. Meanwhile, Diamondback expects its oil production to fall by 3.5% this year as it takes a one-to-three-month break on completing new wells in the region. However, given the industry’s storage issues, it’s possible that Apache, Diamondback, and other producers in that Texas oil basin will reduce their output either voluntarily or by regulatory decree.

Murphy Oil has also cut its spending and activity levels in response to lower oil prices. It initially slashed its capital budget by 35% by delaying some projects in the Gulf of Mexico as well as suspending activity in the Eagle Ford Shale. However, it cut capital spending again this month, reducing it by another 18%, 46% overall. Murphy also slashed its dividend in half, joining Apache, which cut its payout by 90% last month to conserve cash.

Now what

Oil companies continue to cut deeply due to the COVID-19 outbreak. Many started by slashing capital spending. However, they’ve since cut even deeper by reducing production and their dividends to adjust to the tremendous dislocation in the oil market. These moves will help stabilize the oil market until demand starts coming back once the pandemic subsides.

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