Yves here. If the predictions in this article turn out to be correct, and the author argues that they are pretty much on board, a big failure in US LNG production will cause a lot of collateral damage. The first is for Europe, which is betting that LNG and renewables can replace the loss of cheap Russian gas. Recall that contrary to many forecasts, Europe went through last winter without obvious bad results due to demand destruction in the form of deindustrialization (an unrecognized bad result), conservation and a warm winter. Particularly because energy price subsidies stimulate demand, it is not at all clear that Europe will experience such favorable events next winter. At a minimum, scarcer and more expensive LNG will make stockpiling more expensive. Yes, the article places the big drop in production in six to eight months, and there is likely a lag between production and delivery. However, the flip side is that market prices anticipate changes in supply and demand, so there is a good chance that prices will rise before the deficit becomes acute.
Biden will be a second victim. Rising oil prices will ripple through the economy and, if the impact is large enough, will cause the Fed not to concede on scarce money or even to tighten the screw further. Bush the Elder attributed his failed re-election bid to the fact that the Fed waited six months longer than necessary to begin easing.
By David Messler, an oilfield veteran recently retired from a major service company. During his thirty-eight year career, he has worked on six continents in field and office assignments. He currently maintains an independent training and consulting practice, and writes on energy-related topics. Originally posted on Oil Price
- While the EIA and others see U.S. shale production rising through the end of 2024, there are worrying signs that production may already be slowing.
- The two main drivers of U.S. shale production, DUC withdrawals and rig count, are on the decline while 82% of wells drilled in 2022 were expected to replace existing production.
- With analysts already warning of a spike in oil prices later this year, a dramatic drop in US shale production will add significant upside to any rally.
I have argued in several articles on oil prices, and more recently in February 2023, that the era of increased shale well production did not have much more room to maneuver in the absence of a price signal that caused a huge increase in drilling. A price signal similar to the one the market received with the start of Ukraine’s invasion, which added 153 rigs in the US shale plays from January to June 2022. Instead, while as the market adjusted to the loss of Russian oil and gas and worries about the strength of the economy cast doubt on demand, prices began to decline for the remainder of the year.
As we approach the middle of 2023, WTI prices have remained mostly in the $70-$80 range, continuing a trend that was established at the end of Q4 2022. ‘will interrupt this trend, but if we look a little further ahead, in the next six to eight months, we can make the case for a transformative decline in US domestic production.
Subtle Changes in the U.S. E&P Landscape
The table below is a bit cluttered, so we’ll spend some time decoding it. The multicolored vertical bars show the changes in the drawdown of Drilled, but unfinished (DUC) over the past four years. Low oil prices from 2019 to December 2021 caused CIDs to decline from ~4,000 to 1,446, or more than 75%. During this period, oil companies desperate for revenue and needing to control their costs thanks to oil prices below $70 a barrel, turned to DUCs to maintain production. After January 2022, rising oil and gas prices led to a rapid increase in drilling and dampened the trend of CIC activation as the year progressed. From January 2023, DUC drawdowns and drilling have declined and shale production has essentially stabilized around 9300 mm BOPD, according to the monthly EIA-Drilling Productivity Report. The most recent results are captured in the graph below, along with drill data from hugue baker and the frac spread count data of Primary vision.
One final point I will make regarding the graph above, and I will have to ask you to use your imagination as I have not drawn this graph, but you will notice that the slope of the decline curve for CIDs is in large part a mirror image of the increase in production from January 2021. The takeaway being that the removal of DUC is responsible for much of the 1.7mm BOEPD added since January 2021.
Drilling does not begin to resume until June 2021 and it is not until June 2022 that the platform counts-dedicated to oil, rises above 600. The rate at which I believe it is necessary to increase production beyond the rate of natural decline, about 40% per year, of shale generally. I talked about it recently Article on oil prices.
“We have had approximately 600 oil rigs running right since the middle of last year. Since June 22, we have gone from 8.7mm to 9.4mm BOPD in shale production, or approximately 700K BOPD increase. That’s less than 58,000 per month of new production, which means that about 82% ~14,000 wells drilled in 2022 were to replace old production. It only gets worse from here.
What happens from here?
I’ll start with another graph. Starting in January 2023, you see a sharp drop in the rate of new oil added per month. This is consistent with the first DUCs coming online-TIL since January 21st running out as production falls below 50 BOPD, just as the number of oil rigs fell below 600. means that the two drivers – DUC withdrawals and increased rig count – that propelled production to post-Covid highs are in decline, and there is only one possible outcome. Daily shale production is approaching an inflection point and could soon begin a rapid decline, which will be impossible to reverse, absent a dramatic increase in the pace of new well drilling that cannot be maintained in the current market.
Your takeaway meals
The full effect of this decline in shale production will likely occur at the worst possible time if your interests coincide with low to moderate oil prices. Many major banking institutions are warning of a supply shortfall later this year that will lead to soaring oil prices, as reported in this Item Oil Price.
Also worth noting is the surprise factor for markets when, and if, my projections hold true. Nobody expects shale production to decline at this point, which makes me kind of a heretic. The most recent EIA – Today in Energy expects shale production to reach 11mm BOPD by the end of 2024. We can’t both be right.
It is not for me to make a decision on the final results. Observable trends support my thesis, and this creates an opportunity for investors looking for growth in their portfolios. As stated in the article on oil prices-Goldman Sachs: oil markets will face the crisis in 2024, the energy sector is by far the cheapest of the 11 market sectors tracked at a PE of 5.7. The article goes on to say-
“Indeed, the energy sector is the least expensive of the 11 sectors of the American market, with a current PE report of 5.7. In comparison, the second cheapest sector is basic materials with a PE value of 11.3, while financials is the third cheapest with a PE value of 12.4. For some perspective, the S&P 500 average P/E ratio currently sits at 22.2. So we can see that oil and gas stocks are still very cheap even after last year’s massive run, thanks in large part to years of underperformance.
This should suggest opportunities in the upstream energy sector for investors willing to look beyond the daily highs and lows that oil and gas prices are currently experiencing. The scarcity is exacerbating demand, which should already be strong, and should be very bullish for oil prices over the course of the year.