How Technology Is Ushering in the New State of American Oil

Matthew Carr By Matthew Carr, Emerging Trends Strategist, The Oxford Club

Oil & Gas

Necessity is the mother of invention… and in many cases, the mother of innovation.

Companies have to evolve to survive. And I’m not talking about just Blockbuster or VCR repair shops. Those working in the oil patch are just as susceptible to demise…

In 2015, 42 U.S. oil and gas companies worth nearly $18 billion filed for bankruptcy. They were gutted by OPEC as investors saw their stakes vaporized.

But just two years later, the U.S. oil industry is arguably stronger than ever. Those who survived were innovators. And those who are thriving today are continuing to adapt and embrace innovations.

So despite the bumps and bruises that investors have suffered recently with crude’s ebbs and flows, investors can’t ignore the new reality taking shape.

It’s one that we embrace and celebrate here at Energy & Resources Digest.

My colleague Energy and Infrastructure Strategist David Fessler and I share a simple belief: U.S. crude production can and will grow faster than most analysts predict it will.

Most analysts are overlooking the bigger picture. They’re ignoring the changes that have been made.

Recently, I pointed out the massive stockpile of drilled but uncompleted wells (DUCs).

Dave detailed a couple months ago that the U.S. will win the next oil war. He says that the survivors of the last skirmish with OPEC are even stronger than ever.

Part of this has to do with the U.S. shale plays themselves. Another part is the rise of new innovations that are enabling U.S. companies to drill and produce much more efficiently.

U.S. producers are lean and mean… and way more technologically advanced than our OPEC counterparts.

This is the advantage that U.S. exploration and production companies have.

But I’ll use some data to show you what I mean… and you’ll see that Dave and I have been proven right.

Boom Bust Boom

Back during the first week of June 2015, U.S. domestic crude production peaked at 9.61 million barrels per day (bpd). That was despite OPEC having decided in mid-2014 to flood the global markets with oil.

Eventually, OPEC won that battle. It outproduced the U.S. and drove several U.S. companies into bankruptcy.

By August 2016, U.S. domestic production of crude trailed off significantly. Since the start of 2016, daily domestic output had fallen 8.4%. And from that June 2015 peak, U.S. daily crude output had tumbled more than 12%.

The price of crude has rebounded since then, and U.S. production has exploded.

At the end of this past May, U.S. daily crude production reached 9.34 million bpd. That’s up 10.6% from August 2016. Not only are we on track to surpass that average 9.61 million bpd from June 2015… but this year, U.S. crude production could easily top more than 10 million bpd.

This is well ahead of what many people expected of U.S. oil production.

When we look at the U.S. oil rig count, we see it bottomed a couple months before U.S. crude production did. And it has rebounded much more sharply…

After 20 straight weeks of increases, the U.S. oil rig count stood at 733 at the beginning of June. That was a 125.5% increase over the same period in 2016.

There’s some concern building up over this, as well as the disappointment that OPEC chose not to increase production cuts at its last meeting.

But there’s a new reality that investors and the markets haven’t quite come to terms with yet.

In 2013, the breakeven price in the Permian’s Midland Basin was $98 per barrel. Across all five key U.S. shale plays, the average breakeven price was $80 per barrel.

By 2016, these breakeven prices had fallen more than 50%…

In 2016, the Midland Basin saw the largest decline in breakeven prices. And these were just “raw” wellhead prices. From 2013 to 2016, this figure fell 60% to $39 per barrel.

And these prices are moving even lower.

Technology is the driver here.

There is a new class of drilling rig – the so-called “super-spec rig” – that is able to drill a well in only 10 days. That’s more than a week faster than what was possible in 2010. Further, the super-spec rig can “walk” between sites as an added efficiency feature.

Patterson-UTI Energy (Nasdaq: PTEN) is the leading the way, with 100 super-spec rigs (out of the 425 total in the U.S.) in its fleet. The company believes utilization for this class of rig will remain above 90%, and it will upgrade its fleet as necessary to meet demand.

In fact, Patterson-UTI recently increased its capital expenditures projection from $115 million to $145 million.

The super-spec rigs are not only boosting Patterson-UTI’s efficiency… but they’re buoying the entire rig market.

More importantly, costs are continuing to fall.

Patterson-UTI stated that the current surge in onshore drilling wouldn’t have been economically viable just three years ago at current prices… But drilling economics are being positively affected because of the efficiencies of super-spec rigs.

This is the new reality that oil investors and the markets need to adjust to.

Year to date, the Energy Select Sector SPDR ETF (NYSE: XLE) is down around 12%. Meanwhile, the SPDR S&P Oil and Gas Equipment and Services ETF (NYSE: XES) has tumbled around 28%. Both are suffering much worse declines than what we’re seeing in the price of crude.

But make no mistake… The U.S. oil industry is much leaner and meaner than it was just three years ago. And its profitability is increasing as efficiencies reign supreme and costs continue to slide.

The U.S. no longer needs to worry about OPEC… It’s the other way around.

Good investing,

Matthew