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Pipe up

Feb 17, 2017 | 01:43 PM | Dom Yanchunas

Tags  Energy tubulars, OCTG, steel, energy, oil, gas, drills, rig count TMK Ipsco

Energy tubulars demand, pricing are fully in comeback mode for providers of oil country tubular goods (OCTG) and line pipe, and indicators are moving solidly in the right direction for the first time since the oil price crash of 2014-15, due to rising rig counts, and dipping imports.

While some jaded market participants still doubt it, analysts said the U.S. energy-tubulars business is approaching full-fledged recovery mode.

Rig counts are up sharply. Energy-related steel inventories are thinning. Crude oil has held above $50 per barrel. President Trump promises policies to stimulate oil and gas drilling.

For providers of oil country tubular goods (OCTG) and line pipe, indicators are moving solidly in the right direction for the first time since the oil price crash of 2014-15. Prices for OCTG and line pipe gained momentum in January in particular, due to the rising number of active rigs and doubts about import supply.

“It’s looking a lot more positive than it did even last month,” Kimberly Leppold, senior analyst with Metal Bulletin Research, said in February. “The expectation is that oil prices will remain high enough to encourage stronger drilling than we saw last year.”

After the stunning buildup of approximately one year’s worth of OCTG inventory on the ground last year, the energy-tubulars community finally seems to have turned the corner on its destocking challenges. Phone calls are resulting in real purchase orders, and investors seem interested in the sector again.

“The rig count is going up, and the domestic mills are pretty busy right now,” according to Paul Vivian, principal at St. Louis-based Preston Publishing Co. “They’re refilling some inventory holes.”

The number of active U.S. oil and gas rigs rose to 741 by mid-February, up by exactly 200 rigs from a year earlier, according to Baker Hughes Inc. In nine months since the rig count declined to a historic low of 404 in May 2016, the increase has been even more dramatic; drillers added 337 rigs from that low point.

During the weak period in 2015-16, an estimated 12 months’ worth of OCTG inventory lay mostly unwanted on the ground, with little improvement in sight. Energy production companies suffered, investors lost interest, capital expenditures were reduced and steel distributors who stocked up at the wrong time were left with no apparent way to recoup their investment.

The outlook seemed bleak to most participants. At TMK Ipsco, however, indicators were showing signs of modestly bucking the trend. By February 2016, the Houston-based company detected hidden demand, and the company’s sales volumes were rising month by month, according to chairman and chief executive officer Piotr Galitzine.

TMK came to conclude that most of the reputed 12 months of inventory were, in truth, items and sizes that had fallen out of favor because drillers had changed their schematics in regions including the Permian Basin in Texas and New Mexico. For the most-wanted sizes, inventories were not as bloated as most of the market thought.

“Two-thirds of the OCTG inventory is probably not dead, not rusted, but is no longer in demand,” Galitzine said in February 2017.

The true inventory of in-demand items on the ground is probably more like a two-month supply, TMK Ipsco believes. “That’s why you’re seeing your OCTG flying off the shelves,” Galitzine said.

The flurry of demand for some of the tubular goods took many market participants by surprise. Prices pushed sharply higher as customers sought to ensure adequate supply during the drilling expansion, which started in the low-cost Permian Basin but has recently begun spreading to the shale formations including the Marcellus and others.

“The price increases that we had planned for 2017 have all been moved up,” Galitzine said.

Domestic line-pipe mills are enjoying heightened optimism after President Trump signed an executive memorandum Jan. 24 calling for all new and renovated U.S. pipelines to use fully American-made line pipe.

A U.S. Commerce Department anti-dumping case involving OCTG imports from South Korea is due for a final determination around March 31. The run-up to the decision is influencing volume forecasts as some buyers speculate that stiff margins on the Korean goods would reduce shipments. South Korea is the largest source of imported OCTG in the United States.

At least one South Korean mill has put American customers on allocation after having trouble securing enough Asian coil to fulfill orders for welded OCTG, market participants said. That mill is even trying to collect higher prices on existing purchase agreements for the goods, some of which are already en route on ships.

“Our business has been good. People are buying,” a trading source said. “Domestic mills are busy, and people are having to buy domestic.”

Galitzine said market fundamentals justify the rising prices. He noted that OCTG tags have a long way to run before matching more “traditional” levels—$1,500 per ton for welded goods and $2,000 per ton for seamless.

“I think we’ll go back to that. ... I see it going up, but I don’t see it going up, as Alan Greenspan would say, with irrational exuberance,” Galitzine said, borrowing a famous phrase from the former chairman of the Federal Reserve.

Commodity prices do not need to soar from current levels for the steel companies to do well. At TMK Ipsco, officials see a healthy, balanced energy market. Their $50-per-barrel crude price target for the end of 2016 was met, and Galitzine said the company will be “happy” if crude is at $60 per barrel at the end of 2017. On the natural gas side, TMK presumes a range around $3.25 per million British thermal untis (btu) this year and $4.50 in 2018.

One wildcard for this year is the Organization of the Petroleum Exporting Countries (OPEC). In November 2016, the cartel agreed in principle to a round of production cuts with the aim of supporting the oil price. Saudi Arabia, Iran and other members, in consultation with non-OPEC-member Russia, are moving forward with a framework to reduce production by 1.2 million barrels per day. OPEC’s goal is balance, and in its view the best way to achieve that at this time is to support a higher price.

“We need stability—for investments and capacity expansion, to guarantee supply levels are adequate and sufficient, and to enable producers to respond quickly and appropriately in times of unexpected supply constraints,” Mohammed Sanusi Barkindo, OPEC’s secretary general, said in a speech at Columbia University in December 2016.

The exporting nations agreed to start down the path of cuts in January 2017. American producers are watching for signs that discipline is being maintained among the OPEC members, who don’t always keep their production-cut promises. Another important metric is how much higher production will occur in the United States to replace the lost OPEC volume.

“For every barrel that OPEC takes off, the American shale drillers are putting back 0.4 or half of a barrel,” Galitzine said. “As long as that continues, we’ll be OK. But if the shale drillers replace a full barrel, we think you’ll see the oil price slithering down again.”

Expanding domestic energy production bodes well for line pipe, which is needed to gather oil and gas from wells and transport the commodities long distances to the terminals and refineries. Trump’s executive action calls for all new pipelines, plus refitted or expanded pipelines, to use steel line pipe that is fully American-made from the melt stage through the final coating. Market participants have said they believe Trump’s trade team will offer generous tax credits to encourage the operators to order the all-domestic line pipe.

The new president also promised to encourage additional pipeline construction as part of his emphasis on privately funded infrastructure. Trump signed executive orders calling for completion of the Dakota Access pipeline and for the resurrection of the Keystone XL project, which President Obama had canceled. Both of those orders were considered bullish for other pipelines than may be proposed in the future.

American mills are capable of supplying almost all of the pipe, a U.S. mill source said.

“For 90 to 95 percent of the requirements volume-wise, there is no reason why domestic production of steel and then pipe cannot meet the demands of the market,” the mill source said. Developers could file for an exception if certain grades or thicknesses are not available domestically, that mill source said.

While domestic pipe mills salivate over Trump’s protectionist proposal, importers warned that the requirement would harm the supply chain and make the projects more costly. U.S. mills themselves are the destination of 19.8 percent of the steel imports, according to the American Institute for International Steel (AIIS). Trump would be bound by existing trade laws and international agreements, AIIS noted.

“One of the unintended consequences ... will always be any taxpayer dollars funding such projects will be premium dollars by not using possibly lower-cost, high-quality and fairly traded import material that may be available,” AIIS chairman John Foster said.

While the Baker Hughes rig count has leaped 37 percent in a year, it is still a far cry from the pre-slump peak. The U.S. average was 1,862 in 2014 when crude prices spent most of 2013-14 above $90 per barrel.

Barring a change of direction by OPEC or some other bearish shock, 2017 will keep the OCTG and line-pipe business on a positive trajectory, Leppold said.

“We’re definitely not going to return to anything like we saw in 2013, but it will be better than we had in 2016,” Leppold said.


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