Oil prices sank on Monday on a large increase in the U.S. rig count last week, which raised fears of a renewed drilling campaign from American shale drillers.
The U.S. oil rig count jumped by 10 in the week ending on January 25, according to Baker Hughes, the first increase since mid-December. In fact, over the past eight months, there have only been three other weeks in which the rig count increased by double-digits. The surge in the rig count ended several consecutive weeks of sharp declines.
But to keep things in perspective, an increase over a single week is only one data point, and does not yet amount to a trend. Moreover, because of the huge decline the week prior, the increase may not be all that significant. “As the oil rig count had fallen by 21 the week before, this is likely to be a countermovement,” Commerzbank wrote in a note on Monday. “The oil rig count has decreased by 23 since the beginning of the year, which would constitute the most pronounced monthly decline since April 2016. Clearly the significantly lower prices in the fourth quarter are prompting shale oil producers to exercise restraint.”
On the flip side, prices have increased substantially since hitting a low point in December, and the market is on track to post the best January in 14 years. That means that drilling could in fact begin to pick up, which “argues against any further rise in oil prices, though prices are also unlikely to fall significantly,” Commerzbank concluded.
Looking out over the rest of 2019, most analysts still see significant, if steady, increases in oil prices as the market continues to tighten. “We still expect Brent and WTI prices to continue to increase in 1H19 since we see the inventory situation as far better than the last time cuts started in early 2017,” Barclays wrote in a note last week. “We see Brent prices improving to $70/b in 2019 and to $75/b in 2020 as the market weighs inventory drawdown against the prospect of macroeconomic slowdown.”
However, the investment bank offered a cautionary caveat, arguing that risks to its forecast are on the downside. The bank says that “several key market participants” can compensate an overly tight market with additional output, but that there isn’t an equivalent if the situation is reverse. “[T]here is no equivalent mechanism for balancing an unknown and unquantifiable oversupply,” Barclays concluded. In other words, if a supply glut resurfaces, perhaps because of an economic downturn, OPEC+ would not be able to cut deeper in order to balance the market. The upshot is that a sustained slide in prices is more likely than a spike.
Either way, the oil market is now characterized by very quick changes to supply/demand balances. Last year, OPEC+ feared a shortage, so it ramped up supplies, only to realize it had over produced by the end of the year. Barclays says the same thing might happen again this year. “So targeting a balanced market by adjusting supply in current time risks either over- or underproducing, depending on where non-OPEC supply and demand are and will be,” Barclays wrote.
The investment bank says that the precise elasticity of U.S. shale supply is still not clear, nor is global demand. U.S. shale surged last year when prices rose, but demand also cooled when prices climbed too high.
Barclays says that OPEC+ would be wise to hold off on pushing prices too high because the U.S. shale industry is still laying out drilling plans for this year. Delaying a price increase could “keep pressure on 2019 spending plans, at least for small, medium and private producers and at best for larger E&P companies,” Barclays said.
Indeed, the shale industry has shown multiple signs of slowing down, including a declining rig count, slower production growth, lower completion rates, and gloomy assessments from shale executives themselves.