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Where Should Oil Prices Be?

This week marks the sixteenth straight build for oil rigs (+181 or +34.7% since January 13). Gas rigs climbed 11 of the last sixteen weeks, for a total gain of 37 (+27.2%). The number of oil rigs operating in the U.S. rose by 6 to top 700 for the first time since April 2015.

Friday’s combined oil and gas rig count provided by oilfield services provider Baker Hughes showed that the current U.S. mark is now at 870 — up 107.1 percent year-over-year and up 115.3 percent since bottoming out at 404 in May 2016. The count is now at its highest since Aug. 28, 2015 (877).

Even as rig counts continue to climb, oil has been crushed lately. After falling by more than $3 the week before to under $50 per barrel, the price of WTI Crude Oil continued to decline throughout last week. Oil opened April 24 at $49.68 and fell to as low as $48.20 by mid-day April 27 — its lowest mark since March 28 — before rallying to $49.33 by the end of Friday April 28th. Oil opened Monday at $49.17 and is now trading at $46.30 at 2:51 ET.

Energy specialist Art Berman penned an insightful article today on oil prices and we felt compelled to share it here on Oklahoma Minerals.

Oil Prices Plunge To Where They Should Be

Posted in The Petroleum Truth Report on May 5, 2017

WTI oil prices plunged to almost $45 per barrel yesterday (Figure 1). That was a downward adjustment to where prices should be based supply, demand and inventory fundamentals.

Figure 1. Oil Prices Are Testing a $45 Floor. Source: EIA, CBOE, Bloomberg and Labyrinth Consulting Services, Inc.

Analysts invent narratives to explain why things happen after we already know the answer. In this , oil prices fell supposedly because of falling confidence that the OPEC production cuts are working, fears of increasing U.S. shale output, and weakening demand from China.

None of those factors is new nor did they seem to affect the market a few weeks ago when prices were above $53 per barrel.

The real reason that oil prices have fallen is that they were too high and needed to adjust downward. Comparative inventory analysis (Bodell,2009) suggests that the correct price for WTI right now is about $45 per barrel (Figure 2).

Prices rose from that level in November 2016 to almost $55 (black arrows in Figure 2) following announcement of OPEC production cuts. Approximately $10 of “OPEC expectation premium” was included in those higher prices.


Figure 2. $45 Is The Right Price For WTI Based On Comparative Inventories. Source: EIA and Labyrinth Consulting Services, Inc.

In February and March, prices fell from more than $54 to $47 per barrel in the first deflation event shown in Figure 3. Prices then increased to more than $53 in the first half of April before falling to almost $45 per barrel this week during the April-May deflation.

Figure 3. Deflation of the OPEC Expectation Premium. Source EIA, Bloomberg and Labyrinth Consulting Services, Inc.

There is little doubt that the OPEC cuts are real and are working to reduce global inventories. Unrealistic expectations about how quickly markets might re-balance created an expectation premium that is now being deflated as prices adjust to where they should have been all along.

This market has been largely optimistic over the last year so it would not surprise me to see a return to $50 oil prices in the next week or so. At the same time, look for continued price volatility in the tug-of-war between revived expectation premiums and market fundamentals. Inventories will be the critical factor.

Art Berman Petroleum Geologist and Professional Speaker. Visit his website for more information: artberman.com

Check out our proprietary and interactive Rig Count Dashboard.

Compiled and Published by GIB KNIGHT

Gib Knight is a private oil and gas investor and consultant, providing clients advanced analytics and building innovative visual business intelligence solutions to visualize the results, across a broad spectrum of regulatory filings and production data in Oklahoma and Texas. He is the founder of OklahomaMinerals.com, an online resource designed for mineral owners in Oklahoma.

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