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Oil prices are at their highest levels in months on the back of strong demand and some key supply outages around the world. But the next price movements are unclear. as is the response from U.S. shale.
As the International Energy Agency (IEA) noted last week. global oil supply fell in August by about 720.000 bpd—a large contraction after months of sizable gains. Much of that is probably temporary. particularly in the U.S. and Libya. two countries that saw unexpected outages. But the demand story is arguably more important: the IEA upgraded its demand forecast for the year. as consumption has surprised on the upside.
WTI is now back in the vicinity of $50 per barrel. while Brent topped $55 per barrel in recent days—its highest level since the beginning of 2017. But that doesn’t mean that the price gains will continue. There are a few reasons to be skeptical that the momentum will carry crude prices higher than current levels.
CNBC notes that over the past three years. whenever WTI rose above $50 per barrel. a ton of pressure quickly derailed the upward trend. CNBC found that WTI exceeded $50 per barrel 18 times since December 2014. but after it crossed that threshold. the next week’s price movement was positive only 28 percent of the time. Or. put another way. over the past three years. whenever WTI jumped above $50 per barrel. three out of four times the price dropped a week later. Meanwhile. The United States Short Oil Fund. an exchange-traded fund that shorts WTI. was positive 67 percent of the time in the week following a $50 price breach.
In other words. major investors quickly made bearish bets whenever it seemed that WTI was getting too high. and in many cases $50 per barrel was the threshold around which bullishness and bearishness pivoted.
That makes sense because $50 also seems to be an important marker for the starting and stopping of U.S. shale. Drilling activity ramped up at the end of last year and earlier this year after the initial OPEC agreement pushed prices above $50. But drilling activity came to a screeching halt and the rig count flat-lined a few months ago when WTI sank to the low $40s.
Now. a few months after shale drillers dialed back their ambitions. the oil market seems much improved and WTI is back at $50. While breakeven prices vary widely from driller to driller. $50 per barrel appears to be a rough rule of thumb for an industry-wide average breakeven price. While imprecise. the past year or so has seen shale ramp up and down depending on which side of $50 per barrel WTI finds itself on.
The next steps are important but also uncertain. If WTI does post some gains. it seems reasonable to expect U.S. shale companies to accelerate drilling activity.
