Shale watch and American Exceptionalism…

A good article in the FT today (behind a paywall) showing how US shale producers are tapping capital markets as the oil price rises.  This reinforces again the scale of industrial transformation taking place in the US:

Companies in the sector have raised just under $60bn in bond sales so far this year, already a 28 per cent jump from 2016, according to Dealogic. Over the past three weeks, Whiting Petroleum, Continental Resources and Endeavor Energy Resources have each raised $1bn in debt. The bond sales have helped finance increased activity in US shale reserves. The number of rigs drilling the horizontal wells used for shale oil production has more than doubled from its low of 248 in May last year to 652 last week, according to Baker Hughes, the oilfield services group controlled by General Electric.

As the graphic above the title makes clear there is a clearly going to be another year of shale oil output increases in the US. It is a story of capital markets keeping pace, and helping drive, innovation in production. This is now a mass production story and is an economic model at which the US economy excels that economic historians refer to as “American Exceptionalism’ (see here and here if you are interested). American Exceptionalism is based on rich resource endowments and a large domestic market that allow it to produce extraordinary economies of scale. This becomes a virtuous circle, or a “positive feedback loop”, that constantly reduces unit costs and increases output per unit:

Salter Cycle.png

For all those naysayers of shale these charts from the recent Chevron Q3 results make clear that this is no ephemeral phenomena:

Production Efficiency is Increasing:

Chevron Permian Production Q3.png

As are financial returns:

Chevron Permian Returns Q3 2017.png

That is why Chevron, along with BP, Shell, and a host of of E&P companies are increasing their capital allocation to shale. In Chevron’s case 75% of CapEx spend is going on “short-cycle/ brownfield” or the existing commitments to Gorgon/ Wheatsone. Again I emphasise not only the changing nature of the CapEx but the size of the drop from 2014:

Chevron C&E.png

$20bn here and there and pretty soon you are talking real money.

It is clear the US economy can mobilise vast sums of capital to reach companies that are innovating and driving down unit costs.

Offshore is still competitive on a cost basis as this Woodmac graph from Chevron shows:

Woodmac cost base.png

But I have a feeling the shale costs are held as constant in this model without a productivity improvement factored in. A 5% compound productivity improvement over 10 years, not unrealistic in a manufacturing industry and way below current trends, would see a 62% reduction in constant costs. Offshore is simply unable at the moment to offer that sort of productivity increase. Large deepwater fields clearly have the potential to provide a baseload of high-flow, low-lift cost fields, but marginal developments compared to shale look likely to increase in economic difficulty. I know the offshore industry is making a major commitment to standardisation, it needs to, its future without the ability to drop unit costs or raise output per dollar invested will be very hard as only those fields so large as to justify one-off design will be viable against the US (and global) shale industry, or when it runs into volume constraints.

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