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Commodities 2022: Permian gas production gains, weaker basis to persist

Highlights

Rig count, drilling activity surges in fourth quarter

Permian gas production up 720 MMcf/d vs. Q4 2020

Waha Q4 cash basis down 22 cents from summer

As Permian Basin producers dial up drilling activity in response to stronger commodity prices, the outlook for gas production from West Texas has strengthened recently. In 2022, rising associated gas volumes could pressure the cash market at Waha as the region's eastbound pipelines continue to fill.

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On Dec. 15, the number of drilling rigs in the Permian edged up to 306 – a level unseen since the early pandemic days of April 2020, recent data published by Enverus shows.

Drilling and completion activity is already on the rise. In November, Permian operators drilled some 300 wells, marking a more-than 18-month high. From March through November, well completions in the Permian were also on a tear, averaging about 400 per month – at par with highs seen in the first quarter 2020, the most recent data from the US Energy Information Administration shows.

The uptick in activity comes as oil and gas prices have soared.

At Cushing, the benchmark West Texas Intermediate crude price climbed to over $84/b earlier this quarter, but has since cooled, currently trading at closer to $75/b. At the West Texas Waha hub, the spot gas market has followed a similar trajectory, rising to over $5 in October, later easing below-$3/MMBtu more recently, S&P Global Platts Analytics data shows.

Production outlook

Despite the recent drop in prices, the outlook for Permian production growth remains strong.

According to a recent projection from the top executive of US land driller Patterson-UTI, the overall US rig count should continue to grow next year, expanding by some 20%-25%, with much of that growth likely coming from the Permian.

"The market for the most capable rigs in the US is officially tight," Patterson-UTI CEO Andy Hendricks said during a third-quarter earnings call in late October. "We're sold out of [the newest, most capable Patterson-trademarked] rigs in the Permian," he said. "We've seen leading edge day rates move up in the last month and expect that trend to continue."

Midstream companies including Enterprise Products Partners, Plains All American, MPLX, Magellan Midstream and NuStar Energy all reported rising crude and liquids volumes in the Permian Basin on their respective third-quarter conference calls, noting their continued bullish outlook for the fourth quarter and beyond.

Natural gas midstream giant Kinder Morgan also reported rising transport volumes out of West Texas on its own quarterly call, saying that the uptick was driven in part by high utilization on its Permian Highway Pipeline.

Fourth quarter to date, Permian gas production has averaged about 13.6 Bcf/d, outpacing its Q4 2020 average by more than 650 MMcf/d. According to Platts Analytics, annual production growth from the Permian should accelerate next year, outpacing the growth seen in 2021 by some 20%-30%.

Prices

The recent acceleration in Permian Basin drilling and production has already begun weighing on spot gas prices in West Texas.

In the fourth quarter, cash basis at Waha has widened to an average 47 cents discount to the benchmark Henry Hub – down from just a 25 cents discount averaged in June, July and August.

Forwards markets are anticipating the trend to continue, even through the higher-demand winter months. In recent trading, Waha's January and February forwards contracts have slipped to an average 20 cents premium to Henry Hub – down from a more than 40 cents premium on both contracts in early November.

Over the same period, Waha's entire 2022 forward curve has fallen vis-à-vis the benchmark, and is current trading around 42 cents discount to Henry Hub, about 10 cents below levels record in early November, S&P Global Platts' most recently published M2Ms data shows.