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U.S. Needs Decline -- Not Halt -- in Oil Output or Prices to Fall Further, Says IHS

The drop in oil prices over the past year may be just a prelude to more price turbulence because output has risen about 2 million b/d since November -- much more than demand -- boosted by the U.S. onshore, Saudi Arabia and Iraq, according to IHS Energy analysts.

U.S. oil production doesn't only need to be suspended, but it has to decline to "around 9.0 million b/d -- or lower -- to even begin an erosion of the global supply glut," wrote IHS Vice President James Burkhard and senior directors Jamie Webster and Bhushan Bahree.

In April, U.S. crude output was about 9.7 million b/d, they noted in a policy brief.

According to the IHS Performance Evaluator, achieving a decline in U.S. oil production to 9 million b/d is going to require the oil-directed rig count to fall to about 600 by the fourth quarter and average 400-450 rigs in 2016, the lowest level since 2009, before the onshore oil revival.

Until there's some sort of lever pushing output down, prices are poised to continue to tumble, the analysts said.

"Now it is time to hold tight for another drop in prices, followed by an equally unsettling rise later," they wrote. Oil markets "are increasingly glutted. If the United States truly has become the swing producer, its output will fall as prices drop further."

The United States has become the global swing producer for oil, but its role as swing producer is playing out differently than the way OPEC had played in the past.

"U.S. tight oil drilling and production is more dynamic than other sources of upstream supply around the world," said the trio. "The U.S. upstream industry is highly decentralized," with drilling and completion times for oil around four months from planning to ramp up.

In addition, unconventional oil wells have a high decline rate, up to half in the first year, which "can give the effect of a production cut as lower investment will cause declines that bring total production down."

OPEC and Saudi Arabia's strategy had been to shut in production, the IHS team noted. That won't work in the United States.

"Given this role and context, a U.S. production decline appears to be the most rapid avenue for an erosion in the supply glut -- but this may send prices falling even further.”

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