Lack of a meaningful improvement in oil and gas industry credit fundamentals, waning investor interest, and liquidity issues contributed to a double-digit rise in defaults of U.S. oil and gas firms in 2019, according to fresh industry research.
That's despite a much improved oil price environment with benchmarks Brent and WTI ending the last trading day of 2019 at $66.00 and $61.06 per barrel respectively, up from levels of $54.91 and $46.54 recorded in the first full trading day of last year.
That represents an uptick of 20.2% for Brent and 31.2% for WTI. However, research by rating agency Moody's found that speculative-grade default rate for oil and gas firms rose to 12% by end-October, up from 5% in January.
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The figures mark a worsening of default rates compared to 2018, despite higher oil prices when compared to that year which saw Brent futures start trading at $66.67 and end at $53.08 representing an annualized decline of 20.4%, and WTI ending down 24.8% falling from $60.37 at the start of the year to $45.41.
Moody's said the current trend did actually start towards the end of 2018, touching default levels last seen in 2015 and 2016, with 2017-18 providing a temporary reprieve "attributable to investor-supplied liquidity on the back of rising commodity prices and improved market sentiment, rather than any meaningful improvement in oil and gas industry credit fundamentals."
By the end of Q1 2019 that enthusiasm waned, and oil and gas defaults started steadily ticking up again, fueling the overall speculative-grade default rate in the second half of 2019, the agency added.
At the same time, Moody’s rating actions on oil and gas companies in 2019 continued on a "negative trend" that began in the final quarter of 2018, according to Steve Wood, Managing Director for Moody's Oil & Gas team.
Among the 40 rating downgrades by the agency, 32 of the affected companies were already rated B2 or below, with the ratings of these firms moving lower because upcoming maturities increased their refinancing risk or because their fundamentals couldn't improve until oil or natural gas prices strengthened further.
While 2019 provided its fair share of price spikes, including a September upswing following an attack that temporarily crippled Saudi Arabia's output; most price rallies of the last 12 months failed to provide lasting gains in the absence of which crude prices kept oscillating in a predictable $60-70 range taking away many U.S. independents' ability to materially improve their fundamentals.
Moody's also pointed out a key, and somewhat worrying, trend in its latest findings. "What's notable is that unlike the 2015-16 downturn, bankruptcies in 2019 have not been concentrated in the exploration and production sector, but have also included oilfield services, support transportation and midstream pipeline firms," Wood added.
That said, the agency's analysis also shows that in terms of recoveries, 2019's bankruptcies are more consistent with those of 2016, with firm-wide recoveries at an average 42%, against an average of just 21% for exploration and production companies in 2015.
With a more range-bound oil price climate in full swing, there is some more positivity to boot too. Moody's Oil & Gas Liquidity Stress Indicator, that correctly forecast the 2015-16 default cycle, the 2017-18 lull, and renewal of defaults in 2019, is currently signalling that the current default cycle is indeed "winding down."
