The Picture Is Changing In The Bakken

| About: The United (USO)

Summary

In this article, I dug into fresh EIA data regarding the oil production trends of the Bakken and what the outlook for the region looks like this year.

What I concluded is that overall output this year will still fall by a large margin, but by how much depends on your measure of what's important.

While the year-over-year data implies a bullish revision, the average output throughout the year should actually be higher, which is slightly bearish.

Around a month ago, I published an article on Seeking Alpha where I looked at, by using my model, the production trends of the Bakken, one of the seven largest oil and natural gas producing regions covered by the EIA (Energy Information Administration) in its monthly Drilling Productivity Report. Seeing as how fresh data is out now, however, I figured it would be a good idea to revisit the region and figure out what it means for investors in companies like Memorial Production Partners (NASDAQ:MEMP), Approach Resources (NASDAQ:AREX), and Legacy Reserves (NASDAQ:LGCY), as well as for the United States Oil ETF (NYSEARCA:USO) and other oil-related ETFs.

A look back at my older estimates

Before I get to the really fun part where I look at how data has changed and how it should be revised moving forward, I believe it's important to look back at my prior findings and see what the picture looked like a month ago using my prior data. This is presented in the table below. In it, you can see that I had expected oil production in the Bakken to fall materially this year, dropping from the now-revised December 2015 production level of 1,172,224 barrels per day to between 858,049 barrels per day and 884,115 barrels per day by the end of 2016.

Click to enlarge

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

Now, however, the picture for the region has changed. In part, this was due to one particular assumption I looked at, which involves the rig count in the Bakken. You see, previously, I had used historical data to assume that the rig count in the Bakken would be flat at 27 units in perpetuity. However, after seeing that the rig count grew by 1 unit to 28 in the region, I've decided to use the 28 estimate in the months to come, but may revise the data as deemed appropriate.

In addition to this assumption, I had to look at monthly production decline rates each month. In my prior article, I had assumed that we would see three potential scenarios unfold; a conservative one with declines averaging 4.75% each month, a moderate one with declines at 5.25%, and a liberal one where declines would be about 5.75% every month. These data points can be seen in the first table I provided above. However, as you can see in the graph below, the decline rate in the Bakken appears to have shifted up modestly, which is, by definition, bullish for long-oriented investors due to the fact that oil should deplete from wells there at a quicker pace. Because of this, I increased my moderate scenario (the most likely scenario to be accurate) to 5.75% each month and raised the liberal scenario to 6.75%. Meanwhile, I kept the conservative one at 4.75% since it seems reasonable there based on current metrics.

Click to enlarge

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

Finally, I also had to figure out what makes sense for the rate of improvement in rig productivity on a month-to-month basis. In the graph below, I was able to figure that the current trend is toward higher rates of month-to-month improvements and we are looking at a level of about 2.5% at the moment. This is at odds to last month's forecast, where I calculated a monthly improvement rate of around 2%.

Click to enlarge

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

New data is more bullish

Now that I have made the necessary changes to my model, taking out my old data and incorporating my new data into it, I was able to generate the table below. Based on the findings, the picture looks more positive than it had before. Take, for instance, the conservative scenario, which should see output of around 880,100 barrels per day, while the moderate scenario should see that number come out to around 862,522 barrels per day. Meanwhile, the liberal scenario should see output by December of 2016 average about 845,127 barrels per day, which represents a nice year-over-year decline no matter how you look at it. However, in my opinion, the liberal scenario is probably unlikely to transpire and investors should probably expect the moderate scenario to be the most realistic moving forward.

Click to enlarge

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

In order to put this into perspective, I created the next table below, which allows me to compare my prior forecast with my new one. This allows myself to be held accountable for any deficiencies in my prior calculations. Based on the data provided, the moderate scenario calls for output to be about 4,014 barrels per day lower than previously estimated while the moderate one calls for a decline of 8,492 barrels per day. The liberal scenario would see the largest change, about 12,922 barrels per day less than before.

Click to enlarge

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

This looks great but the sad thing is that if you average the data out throughout the year, the picture is actually a bit worse than last month. Under the conservative scenario, output should be about 1,278 barrels per day greater than before and the output under the moderate scenario should be about 1,291 barrels per day greater. Meanwhile, output under the liberal scenario would average about 1,304 barrels per day above prior forecasts throughout 2016.

Takeaway

What we can see from looking at this data is that the picture for the Bakken is still, by definition, positive, and it's even more positive on a year-over-year basis, which should especially help starting next year. However, if you account for revisions from all prior months, the picture is a little worse but, in my opinion, the change on that front is immaterial and should not be considered a threat by long-term oil investors.

Disclosure: I am/we are long MEMP, AREX, LGCY.

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.

Additional disclosure: I own LGCYO, not LGCY