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Crude Economics
Will $50 Oil Be the New Normal?

Oil prices have climbed this year—in fits and starts, it must be said—from their sub-$30 per barrel nadir in January to over $45 today. Much of this rebound was attributed to an idea floated by Russia, Saudi Arabia, Venezuela, and Qatar to freeze the production levels of the world’s petrostates at current levels. Spokespeople spent months hyping this plan, and in so doing helped nudge prices up into the high $30s, and eventually into the $40 range.

When the petrostates actually sat down to sign the deal in Doha earlier this month, they found themselves unable to come to an agreement after Riyadh insisted it wouldn’t limit itself if Tehran didn’t also get on board. This was a predictable outcome, but if there was any surprise that came of the Doha meeting it was this: oil prices didn’t collapse in the wake of the summit’s failure. In fact, as the FT reports, prices are now surging to their highest levels since last November:

Following a slide to 2003 lows in January oil prices have rebounded amid signs global supply and demand will soon come into balance. This has prompted a rush of new investment into crude futures, with speculators raising their holdings to a record high.

“The price rise is for the most part sentiment — and momentum-driven. Despite speculative overheating, any news that could suggest a higher price is viewed as a good reason to buy,” said Carsten Fritsch, analyst at Commerzbank.

In this sense, it could be said that the Doha meeting accomplished something important—it changed the market psychology from “how low can this go” to “the worst is behind us.” But as prices rise, private suppliers will once again find it profitable to drill in the kinds of quantities they were dealing with before the collapse. According to Bloomberg, many oil companies see $50 per barrel as the new “magic number”:

BP Plc, rig-owner Nabors Industries Ltd. and explorer Pioneer Natural Resources Co. all said in the past 24 hours that prices above $50 will encourage more drilling or provide the needed boost to cash flow. With oil bouncing close to $45 a barrel, an industry that has been shaving costs to stay competitive is ready for signs of stability at a price level less than half of 2014’s average. […]

“It’s not just about touching $50,” Fraser McKay, vice president of corporate analysis at Wood Mackenzie in Houston, said Tuesday in a phone interview. “It’s about touching, maintaining and having the perception of future prices above $50 a barrel before you start sanctioning projects that are economic at $50 a barrel.”

Petrostates will also be pleased to see more money in their coffers if prices stabilize $20 above where they were at the start of the year. But the impending arrival of new production coming at $50 per barrel should mean prices won’t be moving much beyond that level, barring any major supply disruptions. If $50 per barrel is the new normal, oil-soaked governments are going to have to notch a new hole in their belts, cinch tight, and find some way to get comfortable taking in less than half than what they were for their most important product just two years ago. American frackers can adapt; petrostates can only endure.

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  • Fat_Man

    Oil prices are, and have been for much of the past 10 years, a function of the flows of money..

    “This has prompted a rush of new investment into crude futures, with speculators raising their holdings to a record high.”

    This requires almost no explanation. With interest rates in many countries at or under zero, people with money will put it into commodities where there might be a positive return.

  • Jacksonian_Libertarian

    Fracking first started booming when prices were at $60/barrel 10 years ago. Given this fact, most tight oil fields are going to be profitable at much lower prices, and even $40/barrel will see significant development of the richer fields. The recent price lows have seen the weaker oil developers go belly up, but the stronger developers are still around ready to take advantage of profitable opportunities, with an informed understanding of the risks. Since fracked wells produce 80% of their oil in the 1st year, these are short term investments which lowers the risk. Time is on the side of the Frackers, as their technology continues to improve, their costs continue to go down, and their experience matures.

    Since markets tend to fluctuate between a ceiling price and a floor price. I would say that $50/barrel is NOT the new normal, but rather the new normal is between a $30/barrel low and a $40 something/barrel high. $50/barrel is just wishful thinking on the part of oil producers, and isn’t the reality expressed in the price action of the last year.

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