Renewed Drilling Could Undercut Oil Price Gains

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Could a production rebound suppress crude’s recovery? The oil market lies in wait of the outcome as the U.S. sends more of its rigs back to work after an increase to $50 per barrel.

On Monday, Morgan Stanley commented that “all eyes” are on the response from the US and the trend in rig numbers for the rest of the year. Last week, drillers put nine machines back into operation. Baker Hughes, which has recorded this data since 1944, reports that this is the biggest gain since December and only the second addition this year.

Angus Nicholson, market analyst at IG Ltd. In Melbourne, said in a phone interview, “The biggest concern for prices going forward is whether the rig count will continue to pick up over the next few weeks,” he continued, “if we start to see a trend—three to four weeks of increases—there will be heightened concerns in the market.” He also said there might be a pullback to $40 or lower per barrel.

Oil has risen from a 12-year low earlier in the year. This increase has brought it to the “sweet spot” for shale output which Citigroup Inc. puts between $50 and $70 per barrel. Prices have grown despite some disruptions to the global supply. A decrease in U.S. production has 500,000 barrels cut from the market each day, and the rig count has reached the lowest level since 2009.

Adam Longson, a Morgan Stanley analyst, said in a note Monday that the rig count doesn’t answer to price signals immediately and that there is usually a delay of anywhere from three to four months. The Morgan Stanley report also mentioned that there is some proof drilling will return to the best acreage, but that more than just an increase in drilling is needed to alter the outlook.

If the market sees an improvement in shale supply, it could help upend the drop in U.S. production for 2016. In April, Richard Westerdale said that drilled, uncompleted wells could very well bring 500,000 barrels to the market each day. Westerdale is a director of policy analysis with the U.S. State Department’s Bureau of Energy Resources.

Just last week in Vienna, the oil minister of Saudi Arabia said that prices need to exceed $50 per barrel for crude supplies to make a return. Minister Khalid Al-Falih made this statement at the semiannual meeting of the Organization of Petroleum Exporting Countries (OPEC). He went on to say that the Kingdom of Saudi Arabia does not oppose shale production and in fact, hopes to see more. However, Al-Falih said that production would have to be conducted at levels that don’t disturb the market’s stability.

It is estimated by the Energy Information Administration that U.S. production will average 8.6 million barrels per day in 2016. This is down from the 9.4 million barrels that were produced daily in 2015. Through May 27, output has decreased to 8.74 million barrels per day. Weekly EIA data reports that this is the lowest output since September 2014.

Article written by HEI contributor Briana Steptoe.

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