An early glimpse of the turn in the oil markets came last August. Thanks to a recovery in the shale oil drilling business, the French company Vallourec started rehiring people it had let go at its Youngstown, Ohio, steel pipe factory.
“We have kept contacts with people even if they were laid off,” Vallourec chief executive Philippe Crouzet said. “We are calling back those former employees and training new ones.”
Ten months later, crude oil prices have tumbled more than 20 percent, with the strong rebound in the U.S. shale oil drilling and production among the reasons for the decline.
As a result, gasoline prices are hitting lows at the start of the summer driving season, a time when increased demand typically bumps up the cost of gas. This year, however, for the week that ended June 19, the nationwide average price of regular gasoline was $2.32 a gallon, about the same as June 2000 when adjusted for inflation.
The low oil prices will help keep a lid on inflation and, because the United States is a major oil importer, will reduce the trade deficit.
The price of crude oil has remained stubbornly weak despite Saudi Arabian efforts to cut output by the Organization of the Petroleum Exporting Countries and to coordinate with Moscow to trim Russian supplies. In May, OPEC and non-OPEC members led by Russia extended supply cuts through the first quarter of 2018 in a bid to drain plentiful global inventories.
A weekly report by the Energy Information Administration on Wednesday gave prices a slight boost, before they resumed their steep descent. The EIA said crude inventories fell 2.5 million barrels and gasoline stockpiles slipped 0.6 million barrels. But it noted that petroleum in storage was plentiful and that gasoline was above the upper limit of the average range for this time of year.
The price of the benchmark West Texas Intermediate crude on Wednesday fell to $42.34 a barrel, down 2.69 percent at 2:20 p.m. and far below its price of $54.45 a barrel in February. The worldwide Brent benchmark slid to $44.85 a barrel, down 2.54 percent.
There are several reasons prices haven’t responded more: A more than doubling in the number of drilling rigs and increases in shale-drilling efficiency has boosted U.S. crude oil production to more than 9.3 million barrels a day, up about 850,000 barrels a day from September. Nigeria and Libya, both torn by internal political strife and exempt from OPEC quotas, have boosted production, offsetting other OPEC cuts and raising the cartel’s total output. And investors and money managers, who expected an increase in crude oil prices, have grown anxious as prices crumbled and have been selling off chunks of their positions.
Jenna Delaney, senior oil analyst at Platts Analytics, a forecasting unit of S&P Global Platts, said that the recent slide in oil prices was also due to surprises in U.S. oil inventory and gasoline consumption figures published by the EIA.
Those figures showed that despite OPEC’s efforts to drain oil inventories around the world, U.S. total stockpiles actually increased a smidgen over the week ending June 9 and the year earlier figure.
And while U.S. gasoline consumption has been strong generally, over the four weeks ending June 16, motor gasoline product supplied averaged over 9.56 million barrels per day, down by 1.6 percent from the same four-week period last year. The U.S. gasoline figure is important because one in every 10 barrels of oil produced worldwide ends up in the fuel tank of a U.S. passenger vehicle.
Of all those factors, the biggest has been U.S. shale oil production, a technological phenomenon that took off in 2009 and has since boosted U.S. output by about 4 million to 5 million barrels a day.
Goldman Sachs reported Monday that since its low point on May 27, 2016, the number of U.S. drilling rigs has soared by 431, or 136 percent. If the rig count simply held steady at this level, Goldman Sachs said that production across the major shale plays would rise by 770,000 barrels a day from the fourth quarter of last year and the fourth quarter of this year.
“We definitely have seen U.S. production take a lot of players by surprise,” Delaney said. “People are really watching to see whether U.S. production is going to grow, taper off or skyrocket.”
A rise in U.S. output offsets part of the cuts Saudi Arabia has organized. The kingdom has kept its own output just under 10 million barrels a day, well below capacity, and it has convinced Russia to cut output by nearly 300,000 barrels a day.
But Nigeria has repaired a key export facility in the Niger Delta where insurgents have often disrupted operations. And Libya has increased its oil exports. Neither country has an OPEC quota while they recover from fighting.
Moreover, Iraq is cheating on its quotas and Russia, while reporting lower production, is actually exporting more oil than ever, according to Robert McNally, president of the Rapidan Group, a consulting firm. In addition, he said in an email, “the so-called ‘cuts’ implemented in January were off of record-high levels producers reached in October last year.”
He said, “OPEC has been much more successful managing sentiment than supply.”
The Saudi drive to cut output starting in September last year followed two years of the country opening its spigots and flooding the market. Saudi and other OPEC leaders believed that once prices fell, U.S. shale drillers would idle rigs and that some would go out of business. Instead the U.S. shale oil business has used the period of low prices to slash costs.
“OPEC oil producers continue to put a lid on their output in an effort to prop up prices. Yet the price of a barrel of Brent crude oil is back down,” Ed Yardeni, president and chief investment strategist of Yardeni Research, said in a note to investors. He noted that U.S. shale production was resilient and that during the 76 percent plunge in the price of oil starting June 19, 2014, U.S. crude oil production fell just 12 percent. After a modest recovery in crude prices, U.S. production rose 10 percent.
The unusual nature of the shale boom also keeps costs down. Chevron says it has about 2 million acres in the Texas Permian Basin, acreage it acquired in mergers with Texaco and Gulf Oil when the reservoirs were thought to be running down. Shale drilling has made that acreage valuable. And Chevron owns the rights and has no need to pay any royalties on most of the land.
“There is a race to reduce costs. This has been extremely successful,” said Vallourec’s Crouzet. “This was not calculated by oil producing countries that thought that letting the price fall from $100 to $70 a barrel would kill the activity of shale oil and gas in North America. They were completely wrong.”
More efficient supply chains and more digital technologies helped, Crouzet said.
As a result, although the rig count is still well below the height in 2014, the two numbers aren’t comparable, Crouzet explained. “The rigs are much more efficient today than three years ago,” he said. “They run much faster, drill more wells, and each well is longer than in the past.” Horizontal wells typically go beyond 10,000 feet and some 15,000 feet, he said.
That’s good for Vallourec, which has facilities in Oklahoma and Texas as well as Youngstown. “All this means that in terms of volumes, we are, if not back to the volumes of 2014, at least not far from that level,” Crouzet said.
Many analysts caution against assuming that crude prices will last indefinitely.
They argue that OPEC’s strategy will just take more time to work. Edward Morse, global commodities chief at Citigroup, wrote in a recent note to investors that bearish sentiment on oil “hasn’t matched the fundamental backdrop however and misperceptions of the current market are keeping oil prices suppressed.” He said that global inventories would come down over the next 18 months, bolstering prices.
On Wednesday, Morse added that U.S. gasoline demand remained strong and that crude oil stockpiles had fallen in 10 of the past 11 weeks.
But McNally disagrees, saying that “one of two things will happen: OPEC needs to make real, steeper cuts, or the price of oil is going to collapse.”