Factors In U.S. Shale Balances - Declines Vs. DUCs

|
Includes: BNO, DBO, DNO, DTO, DWT, IEZ, OIL, OILK, OILX, OLEM, OLO, SCO, SZO, UCO, USL, USO, USOI, UWT, WTID, WTIU, XES
by: Edison Investment Research

There have been a number of developments in recent months in US shale. We examine two key factors to see their effect on market data and sentiment - the levels of inventories and the quantity of drilled, uncompleted wells (DUCs).

Increasing decline rates in the Permian could have significant long-term effects on US shale production expectations, while increasing numbers of DUCs in Permian should give bulls pause for thought on meaningful, near-term increases in oil prices.

Inventories

Increases in decline rates in the Permian have grabbed the headlines, with the upward trend in decline rates resuming after a flattening in 2015. There is a fear that the monthly declines from legacy production will continue to grow from the current levels of 6.2%. How these decline rates move will be a major factor in the production levels seen in the basin.

As an example, we can compare the long-term curves of modelling forward decline rates increasing in line with the trend over the last 12 months to that implied by current levels. This produces the following possible production curves for the Permian; growing decline rates could see reduced production in 2020 by over 350 mbbls/d (vs using current levels). Decline rates would also bring forward the time when production levels would peak, signalling the limitations of the growth in the basin.


Given that the Permian has been the primary driver of production growth in US shales, we and the market continue to monitor these data points. Even so, we expect the Permian basin to deliver strong production growth in the next 12 months.

Inventories and DUCs

The market has also focussed on the reduction of inventories, with overall crude inventories falling at the fastest (absolute) rate since at least 2007. The chart below also indicates that the inventories continue to fall even as previous years have seen declines tail off.

However, we also examine further data which paints a less bullish picture. The decline in inventories has coincided with a sharp increase in the number of drilled but uncompleted wells. In fact, since mid-2016, the number of DUCs in the Permian has almost doubled to 2,300. At current rates of completion, this provides a backlog of around eight months' worth of DUCs inventory and a resource pool that can be more quickly brought online as and when operators ramp up completion crews.

Although these volumes are clearly not inventory (and not able to be released immediately), they do provide the fastest, most elastic production resource globally and the marked increase over the last year should be prominent in any argument of near-term price movements.

Overall, inventories remain at very elevated levels and although they have reduced YTD, if we were to add the 'ghost' inventories represented by volumes from DUCs, the overall levels of inventories + DUC volumes have actually increased.


The dotted line represents 2017 data with DUC volumes added. Here DUC volumes are those released by one month's production only (assuming trend production rates over time).

Note: All data is from the EIA, DPR and interpreted/analysed by Edison.