Soaring Oil Production In The Utica

|
Includes: BNO, DBO, DNO, DTO, DWTI, OIL, OLEM, OLO, SCO, SZO, UCO, USL, USO, UWTI
by: Daniel Jones

Summary

Oil prices have recently begun recovering at the prospect of a drop in output in the U.S.

While this is true for the most part, the situation actually looks a bit ugly in the Utica, which is set to see output rise a bit this year.

Although this isn't large by itself, any increase in output is negative, especially when the picture becomes worse than I initially anticipated.

In many areas across the U.S., as well as in some other countries, the major drop in the oil rig count has resulted in oil production declines that will help to shape the crude oil recovery in the months and years to come. However, not every place is created equal and one region is likely to see output rise meaningfully higher throughout this year if current trends persist; the Utica, one of the seven largest oil and gas producing regions covered by the EIA's (Energy Information Administration's) Drilling Productivity Report. In what follows, I will dig into the data, a dim spot in what is otherwise shaping out to be a bullish outlook for investors in the United States Oil ETF (NYSEARCA:USO) and other oil-oriented securities.

Revising Utica data

In my last article on the Utica, I suggested that a modest uptick in production this year is probable. In order to arrive at this conclusion, I had to look at three assumptions that help to dictate what the future of oil output should look like in any region; rig counts, decline rates, and changes in oil rig productivity. In that article, I assumed that we would see, on average, a 0.5 rig decline every month under current conditions, something that I am leaving unchanged after seeing the rig count fall from 14 units in January to 13 units in February. However, the other two assumptions needed some material revisions that make the picture look somewhat bleak.

One of these, the monthly decline rates in the Utica, are looking less appealing than before. According to the EIA last month, an acceptable range for decline rates should have been about 5% to 5.5% (I used 5% for a conservative forecast, 5.25% for a moderate forecast (the most likely outcome) and 5.5% for a liberal forecast (the least likely)). In the graph below, though, you can see that the revised data looked at by the EIA suggests that things aren't as appealing as they were before. Using this graph, I've decided to use a more modest 4.5% monthly decline rate for the conservative scenario, a 4.75% decline rate for the moderate scenario, and a 5% decline rate for the liberal one. As the data changes, I will continue to make the necessary adjustments.

Click to enlarge

*Source: Created by author with data from the EIA's Drilling Productivity Report

The last indicator I had to analyze was the change in drilling rig productivity. Unlike in the case of decline rates, the picture looks more bullish from a productivity standpoint. Last month, I assumed that we would see month-to-month changes in productivity totaling 5% but, in the graph below, you can see that this trend has been revised downward to some extent. As a result of this fresh data courtesy of the EIA, I've decided to assume that we will see a smaller growth in productivity data from drilling rigs, implying a rate of 4.5% moving forward.

Click to enlarge

*Source: Created by author with data from the EIA's Drilling Productivity Report

After incorporating my older data, I was able to create the following table below. In it, you can see that the amount of oil being extracted from the Utica was likely to rise just about no matter what happens this year. Under the conservative forecast, we could have expected oil production by December of 2016 totaling 81,232 barrels per day. Meanwhile, the moderate and liberal forecasts would result in output of 79,770 barrels per day and 78,336 barrels per day, respectively. All-in-all, this isn't a large increase over last year's revised December data of 78,865 barrels per day (and actually a small decrease using the liberal scenario) but any increase is not welcome by long-oriented investors like myself.

Click to enlarge

*Source: Created by author with data from the EIA's Drilling Productivity Report

Things have gotten a lot less attractive

Now, after incorporating the revised data provided by the EIA, things look worse. In the table below, you can see that oil production is now due to be about 85,680 barrels per day under the conservative scenario and 84,255 barrels per day under the moderate scenario. Even under the unlikely liberal scenario, where we see the highest decline rates, oil output should be somewhere around 82,854 barrels per day. Although, in the grand scheme of things, these changes aren't all that large, they represent a surge of between 5.1% and 8.6% over last December's output, which is quite large when you consider that rigs have been coming offline in response to a major downturn in the price of crude across the globe.

Click to enlarge

*Source: Created by author with data from the EIA's Drilling Productivity Report

In the table below, I figured it would be a wise idea to put things in perspective by comparing my fresh results to my analysis from last month. What we can see is that, under each of the three scenarios, investors should expect some sort of uptick in daily oil production using revised EIA data compared to the older data that's available. This goes on to illustrate the importance of staying up-to-date with any industry data that's available because it can, in aggregate, change the outlook of the oil market.

Click to enlarge

*Source: Created by author with data from the EIA's Drilling Productivity Report

Takeaway

At this moment, Mr. Market is feeling far more upbeat about oil than it has in a while and I understand why. In general, many areas throughout the U.S. should see a downturn in the amount of oil being produced this year (unless rig counts rise materially) but the picture isn't the same everywhere. In the Utica, we are seeing a great deal of stubbornness in output that should result in the amount of crude rising, not falling, something that could serve as a mild headwind for the industry in the months to come.

Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.

I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.