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Nearing the cliff edge

As things stand now, US oil output is about to start dropping quickly. Almost 1m barrels per day could be lost

AMERICAN oil output surprised many last year with its resilience in the face of low oil prices. This year, people might be surprised at how far production falls. With oil prices showing no sign of recovery, producers are signaling nearly 50% capital expenditure cuts and plan to continue pulling rigs. Funding is drying up and price hedges are rolling off. Few, if any, wells are profitable at oil prices around $30 a barrel. New long-lead-time projects from the Gulf of Mexico will help prop up output, but it all adds up to a year of declines. Crude production could fall by around 0.9m barrels a day, from 9.3m b/d at the end of 2015 to 8.4m b/d by the end of 2016.

The Bakken and Eagle Ford shales led the rise of tight oil, and will lead US production declines. The rig count in the Bakken is down 78% since September, from 192 to 42. It is down 72% in the Eagle Ford, from 194 to 55.

Over the same period, both saw steep productivity gains – measured as the amount of crude produced per rig – as oil prices fell and operators retreated to their best acreage. But both have also seen productivity gains slow – from month-on-month rises of as much as 6% to around 1% now, in line with incremental technical improvements to drilling and completion techniques.

The combination of a falling rig count and slowing efficiency gains is behind the recent decline in shale output. This will likely accelerate in the coming months. Producers are guiding a roughly 40-50% reduction in the rig count across the Bakken and Eagle Ford as they reduce spending this year. Petroleum Economist estimates this will lead to a decline from 2.54m b/d of combined output at the end of 2015 to 1.89m b/d by the end of 2016.

The Permian shale in west Texas has proved resilient. The arrival of horizontal drilling and fracking revived America’s largest oil basin, which accounts for a fifth of total US crude output. Thanks to lower costs of production, output continued rising in the Permian even after it fell elsewhere. But production growth has slowed recently, along with decreasing investment.

The deep-water Gulf of Mexico is still growing strong thanks to decisions taken when oil prices were around $100/b. The momentum of production startups that started in 2015 will continue in 2016 as the start up of Anadarko’s Heidelberg field, Noble Energy’s Gunflint project and others lift GoM output to record levels. We expect end-2015’s production of 1.567m b/d to rise to around 1.7m b/d by end-2016.

The oil price decline will also hurt mature provinces – notably Alaska’s North Slope and southern California’s heavy oilfields. Even with spending on enhanced oil recovery techniques, output has been declining in these areas for years. In California, where heavy oil prices have fallen to as low as $19.50/b, the number of rigs in operation has collapsed from around 42 in September 2014 to just seven in early February. Combined oil output from the states will fall by around 6% to 1m b/d, according to Petroleum Economist estimates.

While oil output looks set to fall in 2016, production is unpredictable. If oil prices recover, it is unclear how fast shale production will respond. It could bounce back quickly given the short investment cycle, but producers have seen their finances severely weakened, and it may take time for them to muster the cash needed to reboot development. Some recent signs of distress on Wall Street might also lessen investor appetite too. Another unknown are the so-called drilled-but-uncompleted wells, or DUCs. Some suggest there are as many as 4,000 that could be brought online quickly and cheaply. Producers looking for cost-effective ways to boost cash flow will start to work through this inventory, mitigating some of the decline implied by the falling rig count.

This article is part of an in-depth series on regional production forecasts. Next article: Canada defying the gloom.

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