U.S. Rig Productivity More Than Doubled Over the Past Few Years

Friday January 20, 2016

In the latest edition of the Numbers Report, we'll take a look at some of the most interesting figures put out this week in the energy sector. Each week we'll dig into some data and provide a bit of explanation on what drives the numbers.

Let's take a look.

1. Speculative activity and oil prices

(Click to enlarge)

- Hedge funds and other money managers built up a record high net-long position at the end of December, corresponding with a sharp increase in oil prices.
- Net length in speculative bets surged 63 percent in the month after the Nov. 30 OPEC deal.
- Although there is a chicken-and-egg argument about which causes which, as the chart above shows, speculative activity corresponds with movements in oil prices.
- Early signs of changes in investor sentiment can be interpreted as signals for coming price changes.
- The more recent plateau and slight decrease in net-length could be a warning sign that the optimism over oil prices might have overshot the market. Oil has slipped back towards $50 per barrel in the first few weeks of 2017.

2. Mexico a fast-growing market for U.S. natural gas

(Click to enlarge)

- Natural gas accounts for 54 percent of Mexico's electricity generation, a sharp increase from the 34 percent share in 2005, according to EIA data.
- Natural gas will be the fuel of choice going forward for this emerging economy: between 2016 and 2020 natural gas will account for 60 percent of new capacity additions in Mexico's electric power sector.
- Through 2029, Mexico will build nearly 25 gigawatts of gas-fired power plants.
- This will require a sizable step up in gas imports from the U.S., benefitting shale gas drillers in the Permian Basin and the Eagle Ford Shale in West and South Texas, respectively. A flurry of new pipeline projects are under construction to connect Texas gas to Mexico. Pipeline builders include ONEOK Partners (NYSE: OKS), who is backing the Phase II of the Roadrunner Pipeline, and Energy Transfer Partners (NYSE: ETP), sponsor of the Comanche Trail, Presidio Crossing (also called Trans-Pecos) pipelines.

3. LNG supply deficit looming?

(Click to enlarge)

- Global LNG demand is set to surge to 422 million tonnes per year (mtpa) by 2030, or about two-thirds larger than 2016 levels, according to Bloomberg New Energy Finance.
- Demand is accelerating for the same reason that oil demand rose sharply over the past two years: a glut of supply depressed prices.
- Last year, LNG spot prices in Asia dropped to about one-third of the peaks seen back in 2014, spurring strong demand and scaring away investment in new supply. About 250 mtpa worth of new projects have been delayed or cancelled. That leaves about 40 mtpa slated for construction before 2020, setting the world up for tighter conditions in the next decade and much higher prices.
- This will work to the benefit of major LNG exporters, such as Royal Dutch Shell (NYSE: RDS.A) and Chevron (NYSE: CVX).
- Japan is the largest LNG importer, but its consumption is set to fall, giving way to new sources of growth in China, India, South Korea and Taiwan.

4. OPEC flattened futures curve

(Click to enlarge)

- Not only did the OPEC deal lead to price increases for WTI and Brent (the difference between the dotted lines and the solid lines), but they also altered future expectations of market conditions.
- The oil futures curve flattened out in December, which is a sign that near-term concerns about a supply overhang started to wane. Contracts for the summer of 2017 are trading at a premium to 2018, a situation known as "backwardation."
- This is the first time that Brent has moved to backwardation in two and a half years.
- The futures market is telling us that investors believe the oil market will balance towards the second half of 2017.

5. U.S. gasoline demand weak again

(Click to enlarge)

- U.S. gasoline demand fell by 110,000 barrels per day in the fourth quarter of 2016 compared to a year earlier, a remarkable turnaround from the blockbuster growth seen earlier in the year.
- It also put an end to a four-year period of seasonally-adjusted gains in gasoline consumption.
- The IEA says that weakness in gasoline demand will persist through much of 2017 as gasoline prices rebound.
- A return to tepid gasoline demand comes on the heels of a record year for automakers, with heavier SUVs and trucks doing particularly well. That suggests that gasoline demand could return to growth in the warmer months. However, more price increases at the pump will offset demand coming from the heavier auto fleet.

6. China just cancelled 100 coal plants

(Click to enlarge)

- Yet another smoggy winter has forced Chinese leaders to take drastic action to cut air pollution. This week, China announced that it would cancel the construction of 103 coal-fired power plants, many of which would not be needed anyway because Chinese coal consumption appears to have peaked in 2013.
- The projects represent 120 GW of capacity, a monumental sum. By way of comparison, the U.S. has 305 GW of total coal-fired capacity, so the cancellations are equivalent to a third of the entire U.S. coal fleet.
- China consumes about as much coal as the rest of the world combined, but consumption has been slowing as the economy shifts away from heavy industry and growth has slowed more generally.
- On top of this announcement, India recently announced that it would not need any more coal plants through at least 2027 after the ones currently under construction are finished. India was supposed to take over from China as the source of growth in international coal markets, but that is looking increasingly unlikely.
- With coal consumption leveling off in India, and falling in the U.S., Europe and even China…the outlook for coal producers is pretty grim.

7. Drilling efficiency continues to rise

(Click to enlarge)

- The U.S. shale industry is set to add 170,000 bpd on average this year, according to the IEA. That annual average obscures the fact that output could end the year up 500,000 bpd from today's levels.
- The key driver behind the expected increases in output - aside from higher spending and drilling activity - is the substantial increases in oil production for each given rig.
- In the Bakken, for example, an average rig will be able to produce 1,000 bpd, up from about 600 bpd two years earlier.
- In the Eagle Ford, which has lost a massive volume of production as the industry decamps to the Permian, productivity is still rising. An average rig saw productivity more than double from less than 600 bpd in 2014 to more than 1,200 bpd this year.
- The productivity increases are due to high-grading, better drilling techniques and more advance drilling rigs. These factors indicate that the industry will be able to ramp up quickly this year.

That's it for this week's Numbers Report. Thanks for reading, and we'll see you next week.