Tuesday, March 31, 2009
Friday, March 27, 2009
Wednesday, March 25, 2009
Differences between Capacity and Production
Value and myself have a significant disagreement. I argue that production is down and this is important indicator of the declining ability of the natgas industry to produce. Value argues that because of shut-ins this is very misleading. Let's start by looking at some charts to try to understand the nature of the industry and the data we receive.
The graphic below is designed to show the nature of the stock of wells and the 'flow' or changes in the stock of wells.
There are three types of wells: Prospective wells that have not been drilled, drilled wells and producing wells. Every wells starts out as a prospective well (for example a drilling permit is obtained). Then it is drilled. Finally, it is completed and hooked up to a sales line and produced. Thus, some wells get drilled and are in the blue area in the graph below, but are not yet producing (in the green area). Each period, some prospective wells are drilled and moved from the white area to the blue area. Likewise some drilled wells (blue) start producing and are moved to the green area. Finally each period some wells have such low production that they are abandoned and no longer in the green area. The point of this graphic is to highlight the STOCK of wells and the FLOW of wells.
This alone is complicated and some people have difficulty in dealing with the difference between the stock of wells and the flow (or number of wells drilled in a period). But that is not all! In addition, the natgas industry has the flow of actual natural gas from these wells. The graphic below shows the flow of natgas from the green areas.
We now have the total production starting to fall from very high levels. But we need to examine the situation at a greater level of detail to understand what is happening. Below is a blowup of the production process.
Note how each well (green area) produces natgas and adds to the turquoise area on the right. The size of the green areas is an indication of the size of the well's productive capacity. But wells don't have the same production in every period. Each period a well is produced lowers the size amount of the resource left, which means the production level must fall over time. The graphic below shows this happening. Note that the lines from the fields to the total production can be controlled. In other words, a firm can stop production or curtail production at a field to a lower level. While this may have costs and actually decrease the total amount of production over time, the voluntary cutback of production does happen.
Notice the 'white' boxes in the producing fields. This represents less productive capacity in each well. (I could have also made each green area slightly smaller, but the boxes make the point). Likewise every period new wells (the purple colored areas) are added. The question then becomes is the loss of the green areas greater or less than the new purple areas? I am arguing because the shale wells are very high depletion wells, the white areas are 'large'. Thus, if the number of purple areas is small, the total area or total productive capacity will fall. Value as I understand it, is arguing that the turquoise area is lower because of voluntary cuts in production, not less the fact that the total green and purple area on the left is smaller.
But now look at the charts in the prior post and see the HUGE drop in drilling horizontal wells. This drop means the number of wells moving from the white in the first graphics to the blue is falling. Thus, the number of wells moving from the blue to the green must also fall. Clearly it takes time for a well to move through the process, but as the number of wells drilled continues to fall, the RATE at which the wells are moving into the green area has to fall. Thus in the lower graphics the size of the new purple areas (new wells on production) has to fall. But the depletion (white areas) of the are HUGE. Some estimates of new wells are 50+% in the first year. Thus, the total depletion (white area in the lower graphics) is large, which requires large amounts of new wells (purple) to keep production EVEN.
So who is right? The problem is we don't have the data to determine exactly what is happening. The data on the 'potential' or maximum production level of the producing wells is unknown. We do have some evidence that production is being held back. But the large decreases in production are significantly higher than the reported voluntary cutbacks. (But Value has the opposite opinion.)
Without a doubt, if natgas prices rise back to $10, then several things will happen:
More drilling will occur.
Some wells that have production withheld will increase production
Some wells that are drilled but not producing (blue area in 1st graphic) will be brought online.
As a result, I do see limited upside to the natgas price. Too high a price will bring large production increases. But too low a price will cause the net capacity of the industry to fall.
The graphic below is designed to show the nature of the stock of wells and the 'flow' or changes in the stock of wells.
There are three types of wells: Prospective wells that have not been drilled, drilled wells and producing wells. Every wells starts out as a prospective well (for example a drilling permit is obtained). Then it is drilled. Finally, it is completed and hooked up to a sales line and produced. Thus, some wells get drilled and are in the blue area in the graph below, but are not yet producing (in the green area). Each period, some prospective wells are drilled and moved from the white area to the blue area. Likewise some drilled wells (blue) start producing and are moved to the green area. Finally each period some wells have such low production that they are abandoned and no longer in the green area. The point of this graphic is to highlight the STOCK of wells and the FLOW of wells.
This alone is complicated and some people have difficulty in dealing with the difference between the stock of wells and the flow (or number of wells drilled in a period). But that is not all! In addition, the natgas industry has the flow of actual natural gas from these wells. The graphic below shows the flow of natgas from the green areas.
We now have the total production starting to fall from very high levels. But we need to examine the situation at a greater level of detail to understand what is happening. Below is a blowup of the production process.
Note how each well (green area) produces natgas and adds to the turquoise area on the right. The size of the green areas is an indication of the size of the well's productive capacity. But wells don't have the same production in every period. Each period a well is produced lowers the size amount of the resource left, which means the production level must fall over time. The graphic below shows this happening. Note that the lines from the fields to the total production can be controlled. In other words, a firm can stop production or curtail production at a field to a lower level. While this may have costs and actually decrease the total amount of production over time, the voluntary cutback of production does happen.
Notice the 'white' boxes in the producing fields. This represents less productive capacity in each well. (I could have also made each green area slightly smaller, but the boxes make the point). Likewise every period new wells (the purple colored areas) are added. The question then becomes is the loss of the green areas greater or less than the new purple areas? I am arguing because the shale wells are very high depletion wells, the white areas are 'large'. Thus, if the number of purple areas is small, the total area or total productive capacity will fall. Value as I understand it, is arguing that the turquoise area is lower because of voluntary cuts in production, not less the fact that the total green and purple area on the left is smaller.
But now look at the charts in the prior post and see the HUGE drop in drilling horizontal wells. This drop means the number of wells moving from the white in the first graphics to the blue is falling. Thus, the number of wells moving from the blue to the green must also fall. Clearly it takes time for a well to move through the process, but as the number of wells drilled continues to fall, the RATE at which the wells are moving into the green area has to fall. Thus in the lower graphics the size of the new purple areas (new wells on production) has to fall. But the depletion (white areas) of the are HUGE. Some estimates of new wells are 50+% in the first year. Thus, the total depletion (white area in the lower graphics) is large, which requires large amounts of new wells (purple) to keep production EVEN.
So who is right? The problem is we don't have the data to determine exactly what is happening. The data on the 'potential' or maximum production level of the producing wells is unknown. We do have some evidence that production is being held back. But the large decreases in production are significantly higher than the reported voluntary cutbacks. (But Value has the opposite opinion.)
Without a doubt, if natgas prices rise back to $10, then several things will happen:
More drilling will occur.
Some wells that have production withheld will increase production
Some wells that are drilled but not producing (blue area in 1st graphic) will be brought online.
As a result, I do see limited upside to the natgas price. Too high a price will bring large production increases. But too low a price will cause the net capacity of the industry to fall.
Robry Supply Numbers Show New 2009 Low
A continued drop in the supply of natural gas is shown in the latest Robry numbers. The weekly number is the lowest in 2009 and the lowest since the week of Nov. 11. Clearly the depletion rate on new natgas wells are very high as production has declined 6.9% from the highest weekly production. If the rig count were flat, one could argue this was just a normal seasonal decrease. But with the dramatic decrease in rig counts, getting this production back will be difficult. In addition, there are indications that production may fall in April as some wells are shut-in.
Friday, March 20, 2009
Updated Chart and 4 Week Moving Average
I have updated the chart with the latest Rig data and added a 4-week moving average for production. With the high amount of noise in the data, this should help everyone see the trends better.
The Impact of the AIG 90% Tax
Congress has just made a huge mistake and one that will cause any economic recovery to be delayed by one year or more.
What has Congress done? The house has passed a law that taxes 90% of all bonus payments to ALL firms who have received more than $5 billion in TARP money. This includes all the top banks, such as Goldman, Wells Fargo and Bank of America. In addition, the tax is on family income. Needless to say thousands of people who do work at these institutions will be impacted. For example, say two mid-level executives both earn $150,000 a year, then their bonuses will be taxed at 90%. So every bank under TARP now has an incentive to get rid of the TARP funds as fast as possible. Does anybody really think Goldman can operate under these rules? Their business model does not work under these rules. Thus, all banks have an immediate incentive to pay back the TARP funds NOW.
Up to this point the TARP has been designed to increase lending in the economy. You can argue if the program has been successful or not. But in order for the program to work, the banks have to use the money to make loans. The program was designed for only the 'best' banks to get money. But now Congress has put an extremely onerous provision: You can't give any bonuses! Congress has showed that agreements with the government are only good as long as the political will remains constant.
How will banks react? They will move to immediately pay back the government. To the extent possible, they will stop lending, stop dividends, stop everything to get back their bonuses. Wouldn't you? If you were the head of Wells Fargo and were faced with paying ZERO bonuses for almost all your employees wouldn't you stop everything and try to get out of this disaster? This will start a major run on the capital markets and stop lending. THE VERY OPPOSITE THING TARP WAS DESIGNED TO ENCOURAGE!
Because of the reduced lending, the economy may be faced with a much longer and slower recovery. Would you trust the government to put money into your company? With all the strings that will eventually be attached? If I were President of GM, I would rather face bankruptcy than Congress running my business!
The point is government intervention in the operations of corporations has been shown to be disruptive. The economy will suffer and unemployment will be significantly higher than all prior estimates.
What has Congress done? The house has passed a law that taxes 90% of all bonus payments to ALL firms who have received more than $5 billion in TARP money. This includes all the top banks, such as Goldman, Wells Fargo and Bank of America. In addition, the tax is on family income. Needless to say thousands of people who do work at these institutions will be impacted. For example, say two mid-level executives both earn $150,000 a year, then their bonuses will be taxed at 90%. So every bank under TARP now has an incentive to get rid of the TARP funds as fast as possible. Does anybody really think Goldman can operate under these rules? Their business model does not work under these rules. Thus, all banks have an immediate incentive to pay back the TARP funds NOW.
Up to this point the TARP has been designed to increase lending in the economy. You can argue if the program has been successful or not. But in order for the program to work, the banks have to use the money to make loans. The program was designed for only the 'best' banks to get money. But now Congress has put an extremely onerous provision: You can't give any bonuses! Congress has showed that agreements with the government are only good as long as the political will remains constant.
How will banks react? They will move to immediately pay back the government. To the extent possible, they will stop lending, stop dividends, stop everything to get back their bonuses. Wouldn't you? If you were the head of Wells Fargo and were faced with paying ZERO bonuses for almost all your employees wouldn't you stop everything and try to get out of this disaster? This will start a major run on the capital markets and stop lending. THE VERY OPPOSITE THING TARP WAS DESIGNED TO ENCOURAGE!
Because of the reduced lending, the economy may be faced with a much longer and slower recovery. Would you trust the government to put money into your company? With all the strings that will eventually be attached? If I were President of GM, I would rather face bankruptcy than Congress running my business!
The point is government intervention in the operations of corporations has been shown to be disruptive. The economy will suffer and unemployment will be significantly higher than all prior estimates.
Tuesday, March 17, 2009
Update for Robry's latest data
In looking at the Robry data, the production has fallen to the lowest point in 09. We currently are at the same level of production as the week of July 11, 08. Given the steep decreases in drilling rigs, we have not seen the real decreases in production. Unless prices for natural gas rise quickly, we could see a sub 400 week in May. This would be lower than almost all weeks in 08.
Note that production often falls in April, but this year in addition to the normal seasonal effect, we have drilling rigs levels collapsing and completion levels collapsing even more. The result should be a dramatic fall in production from now till prices rebound. How low of production can we go? I do expect to see sub-400 levels of production before May. This would be much lower than last year's production.
Raymond James has the following quote: "our rig/production model doesn’t have U.S. gas supply down on a year-over-year basis until after June." Given Robry's data, I expect their will be days in March which YOY the production will be down. In April, I would expect there to be weeks where the production was down YOY. Last year production fell in April, so it will be hard to fall faster than the decrease last year, but without a doubt, we will NOT see the increases we did last summer. I predict that for the month of May 09, the production will be less than May 08. Raymond James has been out ahead of everyone on the large increases in production. And while I do not think the price of natural gas is going to rise to $10, I think any price below $3.50 is unsustainable and will cause production to fall to unacceptable levels.
Note that production often falls in April, but this year in addition to the normal seasonal effect, we have drilling rigs levels collapsing and completion levels collapsing even more. The result should be a dramatic fall in production from now till prices rebound. How low of production can we go? I do expect to see sub-400 levels of production before May. This would be much lower than last year's production.
Raymond James has the following quote: "our rig/production model doesn’t have U.S. gas supply down on a year-over-year basis until after June." Given Robry's data, I expect their will be days in March which YOY the production will be down. In April, I would expect there to be weeks where the production was down YOY. Last year production fell in April, so it will be hard to fall faster than the decrease last year, but without a doubt, we will NOT see the increases we did last summer. I predict that for the month of May 09, the production will be less than May 08. Raymond James has been out ahead of everyone on the large increases in production. And while I do not think the price of natural gas is going to rise to $10, I think any price below $3.50 is unsustainable and will cause production to fall to unacceptable levels.
Friday, March 13, 2009
Rig Count Continues to Fall like a ROCK.
In the chart below, you can see Value's estimated Horizontal Natural Gas Rig count continues to fall.
But the Canadian rig count is also falling and more importantly is HALF what it was last year. HALF!
Ahh, but Texas will save us!---- well actually the rig count there looks even worse:
While production has yet to really fall, it MUST. You can not cut the rig count by 50% and not see an impact on production!
Are all the drilling programs worthless? Have companies really been drilling lots of dry holes?
As a result, I expect production to shortly fall to levels LOWER than 2008. The only question is when the production rolls over.
The next question is how low will production fall? Will production fall by more than 10% from January levels? That would be a 6 bcf/day fall in production by September. I think that is very possible if prices stay in the $4 area or lower.
But the Canadian rig count is also falling and more importantly is HALF what it was last year. HALF!
Ahh, but Texas will save us!---- well actually the rig count there looks even worse:
While production has yet to really fall, it MUST. You can not cut the rig count by 50% and not see an impact on production!
Are all the drilling programs worthless? Have companies really been drilling lots of dry holes?
As a result, I expect production to shortly fall to levels LOWER than 2008. The only question is when the production rolls over.
The next question is how low will production fall? Will production fall by more than 10% from January levels? That would be a 6 bcf/day fall in production by September. I think that is very possible if prices stay in the $4 area or lower.
Tuesday, March 10, 2009
Update for Robry's latest data
Production increased slightly during the week. The daily numbers show a temporary spike in the middle of the week, with production then falling below the prior week's average. If the late week numbers continue next week, the production would decline below the level of the past several weeks.
Friday, March 6, 2009
Rig Update for 3.05.09
The data has been updated with the latest Valueconcious data for 3/5/09. It looks like the decrease in horizontal rigs has slowed down. I don't know if this is a trend or a one week event, but is interesting. From the industry chatter, some rigs are under contract and many of the remaining rigs may be under contract for several months.
Tuesday, March 3, 2009
The updated Robry chart shows production has stabilized at 435 a week. Note that this is very unusual. At no time in the past few years have we had 3 weeks of production at exactly the same level. Why the stability? Could be just coincidence or it could be something in the underlying data. Any ideas?
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