Subscribe to Money Morning get daily headlines subscribe now! Money Morning Private Briefing today's private briefing Access Your Profit Alerts

Don't Be Fooled by This Oil Myth

An old oil myth is getting a new lease on life by traders and "analysts" set to convince you that the sky is about to fall.

These "Chicken Littles" are once again talking about drilled but uncompleted wells (or DUCs) and how they (any day now!) will bring oil and gas prices crashing down.

Here's why they're wrong…

DUCs Used to Cast a Shadow on the Market

Now, a while back I took on several misconceptions surrounding the number of DUCs in the U.S. oil and natural gas sector.

But this most recent version of the DUC myth requires another takedown.

DUCs are wells where the bore hole has been drilled to the base of project specifications, but other elements are missing, such as: production pipe casing, equipment string, cementing of the annulus (the area between the pipe and the bore hole wall), and surge protectors.

These DUCs certainly carry the promise of additional extraction. However, until the wells are actually completed and volume begins to flow, they have no impact on the market – apart from analysts and traders trying to "handicap" their completion.

Put simply, the assumption by many was that DUCs would simply aggravate the supply glut in the American market by being a ready source of unwelcome new (oil or gas) volume. That volume, in turn, would constitute a rising tide of excess surplus supply, thereby depressing prices.

When the concern over DUCs was initially advanced, the market was in the throes of a deep price decline, brought about in oil by the OPEC decision to defend market share rather than price, and in natural gas by a seemingly inexhaustible supply of "unconventional" shale and tight gas.

DUCs then became regarded as a depressing shadow cast on any view of market balance between supply and demand.

Yet their existence has always been a component of the distinction between "full cycle" and "half cycle" field operations…

DUCs Are Just a Strategy to Save Costs

Full cycle operations require that full work be done to develop a field, while half cycle refers to wells put on producing acreage with infrastructure already in place and in use.

DUCs are part of a move to reduce overall field expenses by having new production locations able to replace older ones on short notice. The savings can be appreciable. The figure below is an illustration of that from one of my industry briefings.

20170119OEIchart

The U.S. Energy Information Administration (EIA) began tracking DUCs in September of last year (the initial report outlining how the figures are compiled and analyzed can be found here).

Given that most DUCs are found in horizontal wells tapping shale or tight oil/gas, the EIA defines a DUC as a new well after the end of the drilling process, but for which its first completion process has not been concluded.

EIA estimates the end of the drilling process is 20 days after drilling has begun, while the end of the first completion process takes place after the well is fracked for the first time.

EIA further reports DUCs by seven regions (Bakken, Eagle Ford, Haynesville, Marcellus, Niobrara, Permian, and Utica) with the figures that come out mid-month providing the DUC total as of the end of the previous month.

Now, the latest DUC report was issued Tuesday (Jan. 17)…

DUCs Are Beginning to "Hatch"

It concluded that as of the end of December 2016, there were 5,379 DUCs in the seven reporting regions, a 167 rise from November's figures.

Currently, as the prices for both oil and natural gas have been rising, the expectation has again surfaced that U.S. operating companies would race to put DUCs on line and sell product before the price started dipping again.

This would be the latest rendition of a desperate zero-sum game where players grab market share at the expense of others – even if the overall effect is to lower market prices by adding excess supply.

In this case, it would be an American version of the game that, led by OPEC, fueled the downward spiral in global oil prices for just about two years.

Well, some companies are now completing these wells and moving production to market. But what is happening is hardly the scenario sketched by the "Chicken Littles" who predicted (as they always do) that the sky will fall.

Instead, DUCs remain part of an ongoing production planning approach by solvent companies, the only operators for whom such wells make any sense. In contrast, producers with excessive debt, who are bleeding working capital and are selling their product for just about whatever they can to avoid going under, are hardly using DUCs.

Instead, they lead a hand-to-mouth existence, drilling and selling as quickly as they can. But their contribution to the market is declining for a simple reason…

DUCs Are Finally Back Again

They have either gone belly up or have had operations or primary production assets absorbed by stronger competitors.

For those remaining, DUCs are once again a standard device in an overall lifting approach. As I noted in my earlier examination of DUCs, most of them are reserves meant to replace volume coming off line from declining wells, not to increase aggregate production levels significantly.

DUCs, therefore, comprise a part of a normal production process. They've always been a part of the drilling environment. Even when oil prices were north of $100 a barrel and natural gas was trading at $12 or more per 1,000 cubic feet, DUCs were a staple of the sector.

Then the time period between drilling and completing would actually increase, given logistical considerations and the availability of oil field services needed to provide producing wells. A rising number of DUCs would occur in both rising and falling pricing scenarios.

Both DUCs and completed wells declined throughout the collapsing prices between the end of 2014 and the third quarter of 2016. But that was simply a function of the underlying weakness in the market balance between supply and demand.

The current rise in DUCs is not a harbinger of another vicious cycle in pricing. It's simply the welcome return of business as usual.

The post Don't Be Fooled by This Oil Myth appeared first on Oil & Energy Investor.

Join the conversation. Click here to jump to comments…

About the Author

Dr. Kent Moors is an internationally recognized expert in oil and natural gas policy, risk assessment, and emerging market economic development. He serves as an advisor to many U.S. governors and foreign governments. Kent details his latest global travels in his free Oil & Energy Investor e-letter. He makes specific investment recommendations in his newsletter, the Energy Advantage. For more active investors, he issues shorter-term trades in his Energy Inner Circle

Read full bio

  1. Chuck | January 27, 2017

    DUCs are not the only game in town. There are also lots of wells operating in deleting zones just waiting to be refracked in their current zones or recompleted in the next productive zone. If prices hold or start floating up these marginally operating wells will get quick attention to restore them to positive cash flow.
    Reworking available wells is a very fast process that just takes a couple of days to significantly boost production. They can, and will, be turned up in response to pricing incentives. This pent up production capability makes this time different.

Leave a Reply

Your email address will not be published. Required fields are marked *

Some HTML is OK