The crude oil price erosion that began in the summer of 2014 is generating a variety of perspectives from analysts following the industry, including two Rice University analysts who talked to Rigzone about the dynamics behind the dizzying drop in prices, and what lies ahead.The Saudi factor:
Rigzone: Is the downturn anyone’s “fault?”
Arnold: The way I see it is that the United States is the country that’s been increasing production dramatically. Saudi has been maintaining markets, which is not an unreasonable thing for a sophisticated player to do. But they haven’t been dumping on the market, nor have they decided to cut their own production, knowing that OPEC has a history of cheating by their partners. Another thing that’s been in the back of my mind is that there used to be a close relationship between the Saudis and Washington, and through different administrations. I think the Saudis were very mindful of the impact of their actions in the United States in the last couple of decades. And now, you just don’t get the feeling that there’s the sensitivity about that relationship that there had been historically.Swing supplier.
Rigzone: The term “swing supplier” has come up more in recent weeks. What is that about?
Krane: Traditionally, the swing supplier in the market has been OPEC, and mainly Saudi Arabia. When there was too much supply or too much production, and the market became flooded with crude oil, prices would start to drop, and OPEC would take some of that production off the market. OPEC could add supply to the market or take supply off the market, as conditions warranted. But the advent of U.S. shale production has kind of interrupted that process. Historically, oil production from non-OPEC countries was not a problem for OPEC because it did not increase quickly enough to threaten Saudi Arabia’s market share. Total production has overwhelmed global demand with the sudden and significant increase in production from the United States amid the fracking boom. Not wishing to give up market share to the United States and North America, OPEC responded in a new way – by not decreasing production.Caught off guard?
Rigzone: Some analysts have suggested that perhaps OPEC did not intend for prices to fall this much, or this quickly.
Krane: While OPEC acted to weaken crude oil prices, they probably overshot the mark on the way down. OPEC opened the taps, letting more crude oil into the market to lower prices. However, there could have been an overreaction, given how far prices have fallen. By the end of the year, prices might reasonably be expected to be back up in the $70s/barrel, barring a serious geopolitical event. The big change is on this side of the globe, and that’s where production is going to have to fall so markets are balanced again. It’s a rational and reasonable course of action – or inaction – for OPEC. They don’t want to see someone else take their market share. They will have some short-term pain because they won’t have the same revenue from oil, but that’s the price they’re going to have to pay to maintain their share of the market.