OPEC has lost control over crude oil prices – while shale has become king of the ‘swingers’


Who controls oil prices? Before 2015, the answer for this question would be easy. It’s  OPEC. No one can deny the fact that OPEC had the upper hand on oil prices up until 2015.

However, since 2015 up until today and to the unforeseeable future, OPEC will not be able to control oil prices as it did in the past.

This might be surprising, but believe or not, it is the new normal. A trend that even OPEC itself didn’t expect it a few years back. What might even be more surprising is knowing the fact that OPEC itself is the reason for its partial loss of control over oil prices.

Over the past a few years, OPEC -l ed by Saudi Arabia – was able to maintain oil prices at high level. During that period, OPEC members were cashing in a lot of money out of their oil revenue. But, they were not the only one benefiting from high oil prices, shale oil producers were at advantage too. 

High and sustained oil prices provided a suitable environment for shale oil to grow and nurture. Investors felt confident about the oil market and investment started following in. The needed technology was developed, utilised and shale oil production started to grow. 

Over the past five years, US oil production nearly doubled from 5,476,000 barrel a day in 2010 to its peak of 9,598,000 in July 2015. This huge addition to US  oil production made OPEC realise its mistake and it was forced to reduce oil prices by maintaining its oil output in order to put an end to shale oil boom aimed protecting its market-share.

But it was too late. 

The technological innovations that helped develop shale oil production is now out of the box and they are not going to disappear just because crude oil prices are low.

In fact, low crude  oil prices will drive it to become more cheaper and efficient. The money is already invested in many shale plays and obviously there is no going back. 

OPEC’s desire for high oil prices created competitors from nowhere. And now, instead of focusing on how to maintain oil prices at high levels as it did in the past, OPEC is fighting for market-share. This a huge shift in the cartel’s strategy. 

Prior to 2015, OPEC had an unmatched control over oil prices, they were able to decrease or increase the prices as they wanted.

But is OPEC still able to do the same now? The answer is a big “NO” and here is why.

On the one hand, one of the important things to know about shale oil is that, it is an unconventional resource that is uneconomical at low oil prices mainly prices below $50 a barrel. It requires high cost of production unlike conventional oil produced by OPEC. According to the International Energy Agency, the break-even price of unconventional resources ranges between $40 to $110 a barrel approximately. 

However, while OPEC members want to keep oil prices high in order to generate higher revenue, they will not be able to do so anymore. Because maintaining oil prices at high levels means making their rivals – shale oil producers – stronger. And the stronger their rivals become, the more market-share OPEC loses. 

It is clear now that, regardless of OPEC’s desire for high oil prices, shale oil has forced OPEC to keep the oil prices below certain levels that is below shale oil’s break-even price. This tells us that, how high oil prices can go in the future is now depending on shale oil producers next move more than OPEC’s. 

If shale oil producers were able to survive by driving their cost of production down, oil prices may experience new lows for the short-term, but eventually OPEC will have to accept the reality and a new equilibrium should take place. Don’t to forget that OPEC members want to make profit after all.

But if shale producers didn’t survive and their production started to fall sharply. In this case, OPEC will only win the market-share war, but high prices will not be back. Many would say that less supply -that could be a result of the current downturn- will drive prices up. That is true, but OPEC will not let that happen, it will pump more.

Because the return of high crude oil prices simply stimulates the return of its unconventional shale rival. 

If you look at how OPEC members are flooding the market with oil to drive prices down, you will realise that they are not doing it because they want to; rather because they are forced to do it. And being forced to do something means having no control. They are keeping oil prices low because shale oil forced them to do so. 

OPEC is losing full control over oil prices due to its inability to foresee changes in the oil industry dynamics and how oil is changing forms—geographically, geologically, chemically, and economically.

The ongoing market-share cold war is not just about OPEC and shale oil, it is about conventional and unconventional oils. No matter what OPEC does now to stop it from happening, unconventional oil is coming and it will be the future source of energy. 


Investor takeaway

Shale oil resilience is changing the fundamentals of the oil industry. Parameters that historically used to indicate the health of the oil industry and oil production such as rig count are no longer doing so at least to a certain extent. Its role has been offset by technological advancement. A careful evaluation of the impact of new technology and innovation on the oil industry is very important now more than ever for investors’ next step.

High oil prices are the main reason for the current downturn, and therefore expecting it to be back soon is no option.

The current downturn may result in a shortage of supply that many industry players-  including OPEC – believe  will rocket oil prices  back up to $200-barrel and beynd.

But that will be unlikely to happen. OPEC knows very well that high oil prices will bring its rivals back, and therefore it will do its best to stop that from happening.

Pumping more oil will be the way to do so, and that will not be difficult giving the re-entry of Iran to the international oil market, and the fact that many OPEC’s members are still able to pump more.

A better way of knowing where oil prices will be in the future is considering the break-even prices of U.S. shale oil producers, because that is the main focus of OPEC right now. It is trying hard to make sure prices does not go beyond that levels in order to make its rivals lose.

Alahdal A. HusseinAlahdal A. Hussein

Website : www.alahdalhussein.com

Linkedin : https://my.linkedin.com/in/alahdalahussein

OilPro: http://oilpro.com/alahdalahussein

Alahdal is a petroleum industry professional and a member of the Young Member Engagement Committee at the Society of Petroleum Engineers.

He holds a Bachelor Degree ( Honors ) in petroleum engineering from Universiti Teknologi Malaysia.

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