Where Oil Prices Go, the Rig Count will Follow
They say the best cure for low oil prices is low oil prices. But every time this truism is uttered, it’s fair to say that most energy analysts pause for a moment and think to themselves, “so far.” After all, there is always the possibility that new efficiencies in the industry will make continued growth in oil production viable at incredibly low prices. Indeed, so far, oil production and prices have always been characterized by boom and bust cycles. High prices draws new actors into the market. Low prices pressure the market and drive high-cost or inefficient producers out of business. Fortunes are made and broken in the process. Every boom and bust is different, but they always follow the same trends. And perhaps the day will come when technology breaks oil producers and consumers out of this book and bust cycle... but right now, it doesn't look like this day has come. Ever since oil prices began their price slide this year, analysts have been waiting for the earliest signs that production will suffer, and there are no shortage of indicators. Cuts in capital expenditures or staffing of major oil companies, filings of bankruptcy, and cancellations of megaprojects are all sources of insight. However, these indicators are often delayed, and—as they apply to a wide range of companies large and small across a massive industry—are difficult to interpret as a single metric. Scattered news reports describing challenged balance sheets may be compelling, but in some ways they account for little more than anecdotal evidence. Furthermore, abstract warnings of company layoffs or constrained spending are nothing more than forecasts, and don’t necessarily serve as reliable indicators of the health of the drilling industry. That’s why eyes are primed towards one metric that is both consistent, concise, and exceptionally timely: the rig count. Published weekly by oilfield services company Baker Hughes, the rig count might be the single best indicator of trends in U.S. oil production. This is especially critical since virtually all production growth in the United States since 2005 has occurred from shale or tight oil production, which has far lower per-well productivity than conventional or deepwater oil production, as well as very rapid decline rates. Some wells do not continue to produce meaningful volumes of oil after as little as one year, so continued drilling and investment is required simply to maintain production levels, let alone increase oil output. There’s a clear and obvious relationship between oil prices and the rig count—high prices enable drillers to keep running on the treadmill and continue to increase production. However, the relationship between the two is not always consistent, as technological evolution enables drillers to operate with greater efficiency. A chart of oil prices and the rig count shows some of this relationship--it looks like we are finally starting to see a reaction from drillers to oil's 50 percent price decline.
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