Understanding the Strange Connection Between Rig Shutdowns and Oil Prices

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By Jacob Maslow

Ocean Oil PlatformRecently, oil prices have started to decrease once again. This was followed by a February rally that left the Brent global oil benchmark with an impressive 18% gain. This figure is quite impressive because this is the highest monthly increase this global petroleum benchmark registered in close to six years. With that said, the increase in oil prices actually worked against the oil industry. If the interest of the oil industry is in increasing global petroleum prices, then it really didn’t do itself any favors with this recent price rise.

The reason for this is that the number of oil rigs being shut down decreases whenever there is an uptick in oil pricing. Not surprisingly, the pace at which oil drilling rigs in the United States were mothballed dropped by 31% on a year-over-year basis. Putting these altogether, we see a quite interesting paradox. Increasing oil prices tend to put into motion factors that would tend to decrease the price of oil further down the road.

Moreover, just because oil rigs are being mothballed, it doesn’t necessarily translate to less supply. Thanks to innovations in US oil extraction technology, US oil production can live with fewer oil rigs and still produce more oil. This is the big paradox that still hasn’t been reversed by recent gyrations in oil prices. In light of all these factors, analysts from Barclays Bank conclude that oil prices would have to sink more to truly take a big bite out of the supply.

My opinion on this is that it is not really the supply that is keeping oil prices low. It is a softening global demand. If global demand were to spike up due to a rising tide of economic improvement all over the globe, then all that supply would be soaked up. Obviously, that is not happening. We can play the supply game all we want but, ultimately, the main factor behind the global price of oil remains on the demand side.

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