Taking stock of 2023 so far

The US onshore exploration and production (E&P) sector, predominantly driven by shale operators, has experienced significant fluctuations in recent months. Despite these challenges, the industry has demonstrated maturity in various aspects, enabling it to navigate through adversity while remaining profitable. Factors contributing to this resilience include reduced sensitivity to oil prices, improved consistency in well outcomes and consolidation within the sector. The latest earnings report for the first quarter of 2023 revealed consecutive increases in reinvestment rates. They have reached 60%, which is still exceptionally low and would have been unimaginable just a few years ago.

Drilling activity seems to be responding to the weaknesses in the oil market. In contrast, gas drilling has been most affected by the large drop in the underlying commodity. However, our analysis suggest that fracking activity remains robust. The inventory of drilled but uncompleted wells (DUC) is gradually decreasing, yet it remains at a healthy level. High fracking rates have significantly boosted production, particularly in the Permian region, and are anticipated to drive further growth in the US. However, this growth comes at a cost of increased flaring in the Permian. Meanwhile, our research shows that the productivity of oil wells in the US has shown marginal degradation, but the magnitude of this decline does not pose a significant concern in the short term.

Looking at the signals for the rest of the year

While the rig count keeps dropping, it is important to note that it remains above the balancing level or the level required to keep production from declining, even ignoring the inevitable drawdown in the DUC inventory that will start to show in the summer data. Driven by a lack of sustained demand, we are observing downward pressure on rig pricing, which likely peaked in the first quarter of 23 and is nearly $38,000 per day on average for a high-spec rig. We expect this to continue and alleviate the cost inflation the E&Ps have been exposed to. A similar trend is occurring on the pressure pumping side, yet this segment remains more robust as demand is not declining yet. Meanwhile, major and large independent operators now possess substantial cash reserves, allowing them to pursue acquisitions strategically. Chevron's recent acquisition of PDC serves as a prime example. However, the pullback in both oil and gas decks observed this year may prompt potential buyers to await more favorable conditions in the acquisition market as valuations potentially soften.

Natural gas prices remain distressingly low, with associated production in the Permian Basin growing without adequate outlets. This situation has led to increased flaring, in-field consumption, and re-injection into the ground. We expect this trend to continue into the second half of the year before we see relief from the new scheduled expansions. With Congress having approved the debt ceiling bill, the completion of the Mountain Valley Pipeline from Appalachia which might be a relief to growth-hungry E&Ps, but will increase the strain on some pricing hubs. Gas-focused operators will keep relying on their profitable hedging positions for as long as possible before facing the realities of the spot market. On oil, we do not expect the above-mentioned productivity degradation to continue, at least in the Permian. Longer term, the question of the availability of Tier 1 acreage looms on the horizon, but we do not expect this to have a material impact on basin-wide production in the short term.