A February 10th report from Goldman Sachs Commodities Research highlights that despite the rapid decline in U.S. oil rig count over the last month or two, a good many more rigs will likely be shut down over the coming months assuming oil prices remain in the $50-$60 a barrel range.
GS analysts Damien Courvalin, Raquel Ohana and Daniel Quigley explain their thesis: “Net, the rig count decline is not sufficient in our view to achieve the slowdown in US production growth required to balance the oil market. In fact, risks to these estimates are skewed to the upside as our analysis does not take into account the backlog of wells. Further, recent comments by some E&Ps suggest that the drop is so far for non-contracted rigs.”
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Market still oversupplied even with large decrease in oil rig count
The first point Courvalin et al. make in their report is that the US oil rig count has dropped dramatically over the last couple of months, with news of the drop helping kick off a major rally in oil prices. In order to assess the impact of the decline in oil rig count, the analysts break down oil production from the Big 3 shale plays into well and rig numbers. Their analysis suggests that the current rig count will lead to production growth from these plays to 615 kb/d yoy in the fourth quarter of 2015, well above GS’s growth target of 400 kb/d for the continental U.S.
Productivity gains and asset “high-grading”
The GS report also highlights that “the continued trend growth in rig and well productivity brings production growth from the Big 3 plays up to 690 kb/d by 4Q15.” Courvalin and colleagues additionally note that productivity gains tend to compound over time and are likely to be more substantial by 2016.
The analysts further note that they anticipate the rig count will soon start to reflect more high-grading. They model a scenario where rig count declines hit the least efficient counties hardest, which suggests that the horizontal rig count of the Big 3 would need to drop by another 30% to 407 for production growth to hit 400 kb/d by the fourth quarter of 2015.
In concluding, the Goldman Sachs report notes: “This rig flexibility and associated cost deflation along with the significant producer hedging that has occurred over the past week and the recent wave of equity issuance raise the risk that the US production slowdown will be delayed. As a result, we reiterate our view that oil prices need to remain lower in the coming quarters in order for the announced capex guidance and rig reduction to materialize into sufficiently lower production growth.”