Oil drilling operations like this one are going dark at a rapid rate in the U.S. Image source: LINN Energy.
A year from now, we may look back on January 30, 2015 as the day oil prices began to rise again. At about 1:30 p.m. EST on Friday, the price of oil began to pop and near the end of the day West Texas Intermediate oil -- the U.S. benchmark -- was up $3 per barrel to $47.43.
The move was swift and traders were looking at rapidly falling drilling budgets and a surprise drop in drilling activity as a sign the market's oversupply could be coming to an end. Here's what you need to know about the most recent big move in oil prices.
Offshore drilling has slowed rapidly in the Gulf of Mexico as a result of low oil prices. Image source: Seadrill.
OPEC is winning the war
When OPEC decided this fall to maintain its production quota of around 30 million barrels per day it sent oil prices lower as a result. With this move the cartel was trying to squeeze out U.S. shale oil producers and other marginal producers that posed a threat to its market share. The outstanding question in the last few months for the oil industry is who would blink first? OPEC or U.S. oil producers? This week, Big Oil answered that question.
ConocoPhillips (COP -0.43%) reported a net loss of $39 million on Thursday and said it would slash its capital spending budget from $13.5 billion to $11.5 billion, over 30% less than what it spent in 2014. The company blamed falling oil prices, which has been a common thread in other companies cutting capital expenditures.
Meanwhile, Chevron (CVX 0.44%) reported a 30% drop in fourth-quarter profit and said it was cutting 2015 capital expenditures 13% from a year ago to $35 billion.
This follows a 53% cut in capital spending from smaller independent oil producers LINN Energy (LINEQ) and Continental Resources (CLR) backtracking from a $5.2 billion capital budget all the way down to $2.7 billion.
Big Oil, Little Oil, and everyone in between is cutting back on oil exploration and long-term that will reduce the supply of oil in the market. OPEC is getting just what it wants by forcing U.S. producers to slow down their own production and that's a big reason prices jumped.
Worse than 1987
The other major data point that came out of the industry on Friday was from Baker Hughes' (BHI) weekly rig count, which measures the number of rigs in operation in North America. In the U.S., the number of rigs drilling for oil dropped a whopping 7.1% in just one week to 1,223 units and is down 22% in just the last two months. We haven't seen a drop like that since 1987.
US Rotary Rigs data by YCharts.p
The slow trickle of announcements about layoffs and lower capital expenditures has been a sign that the global oversupply of oil is easing. Moreover, this week's announcements from two big oil companies and the rapid drop in drilling rigs showed that producers are serious about cutting back immediately.
Cutting back on drilling may be bad for production growth, but if it means higher prices it could actually be good for most producers that already have wells in production. It may seem counterintuitive, but less investment in the future could actually be good for future profits, provided prices continue to rise.
But shrinking capital spending is bad news for companies supplying the oil industry, like rig and technology suppliers Baker Hughes and Halliburton. As always, there are winners and losers when oil price move dramatically, it just depends on where you sit in the industry.
More of the same, or a new beginning?
One day's movement doesn't make a trend, and this may not mean the end of cheap oil, but announcements in the last few months coming from the oil industry indicate that it's ready to cut supply to bring prices higher. That could ease pressure on many oil producing companies and bring some stability to the freefall in oil prices.
I wouldn't expect oil to be near $100 per barrel anytime soon, but we could see a slow march higher if oversupply indeed eases in the global market. Only that can push prices higher and improve the fortune of oil producers' stocks in 2015. Friday was a welcome ray of hope in an otherwise dark time for oil producers.
