A Major Shift In The Oil Industry Is Taking Place
Feb. 14, 2016 6:32 AM ET| Includes: BNO, DBO, DIG, DNO, DTO, DWTI, OIL, OLEM, OLO, SCO, SZO, UCO, USL, USO, UWTI
Daniel Jones Daniel Jones?Follow(1,781 followers)
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Summary
Despite a great degree of bearishness in the oil patch right now, there are some fundamental changes taking place that should prove bullish down the road.
One of these is a shift toward what will likely become lower oil production in the Permian Basin, as the number of rig counts in the region plummet.
Based on my findings, investors should expect a nice-sized drop in output this year, a move that is more bullish than I previously anticipated.
A couple weeks ago, I came out with an analysis predicated on data provided by the EIA (Energy Information Administration) in its Drilling Productivity Report regarding the Permian Basin and what the future looks like for the region under the current drilling environment. My overall conclusion was that there's a reasonable chance that we could see a drop in production from there this year but that the drop, in most circumstances, would be small at best. Now, however, with fresh data from the EIA out, the situation is beginning to look more bullish and it could be this basin, which has seen its production rise even as the number of rigs operating there fell, that serves as a tipping point for U.S. oil production.
A look back at my data
In my previous piece, I highlighted what the situation would look like if three core assumptions were to come true. The first is that the number of rigs in the region continue to fall by eight units per month. While this may be hard to fathom, the fact of the matter is that, the lower oil prices stay, the more that drilling rigs will come offline. Using fresh data provided by the EIA, I discovered that the rig count in January of this year came out to 199 units, slightly lower than the 202 units I estimated we would see for the month. By taking new data from the Baker Hughes (NYSE:BHI) rig count, which estimates that there are 180 rigs in operation in the region right now, I figured that, sticking true to my prior estimate, we would see at least eight more rigs come offline this month.
Another indicator that I had to estimate relates to the monthly decline rates of wells in the Permian. In the graph below, you can see the estimated decline rates for every month since January of 2007 (the furthest back that data goes). Unfortunately, it seems as though we've leveled off at a decline rate of 4% so, given this plus the historical trend of the decline rate curve, I'm looking at three different scenarios regarding what the decline rate of wells should be in the future; a conservative estimate, where the decline rate is 3%, a moderate estimate (which is the most probable right now), with a decline rate of 4%, and a liberal one (which is fairly unlikely at the moment), with a decline rate of 5%.