Will Oil Prices Return to 2016 Lows?

Despite OPEC’s best efforts, the price of oil is once again likely to fall below $50 per barrel. U.S. oil production continues to rise, and is now at its highest level since early 2016. After nine straight months of rising production levels, investors completed a massive selloff on Wednesday, triggering the largest one day drop since February 2016, with the commodity losing five percent of its value.

Oversupply causes a 5 percent drop in oil prices in one day.

Cuts in Production Raised Oil Prices from Recent Lows

The surge in prices over the last few months is due to an agreement reached in December by OPEC nations to significantly reduce oil production. Only Libya and Nigeria were freed from quotas, due to the severity of their economic crises. However, neither country is currently able to make significant contributions to oil output.

In January, several oil producing countries that are not members of OPEC also agreed to limit their output. For the previous two years, the oil rich nations of the Middle East had been operating without limits, in an attempt to drive American and Canadian suppliers out of business. However, while cuts in the barrels taken from the ground have been achieved, actual exports have remained the same since December.

How Long Will OPEC Countries Agree to Quotas?

Several countries, including Saudi Arabia and Angola, which are currently cooperating to reduce crude stockpiles may drop out of the agreement altogether if the desired price of $60 per barrel is not sustained. Russia, Iraq, and Venezuela are already producing more barrels than agreed upon during negotiations. The agreement was only in signed for a period of six months, and a renewal at this point seems tenuous. Analysts are watching inventories closely to determine if oil prices could spiral into the type of freefall that dominated the early months of 2016.

End of Annual Oil Leases Puts More Oil on the Market

Another decisive factor in the rising oil prices was the expiration of annual commodity leases. The leaseholders had saved up oil barrels in 2016 in the hopes that prices would rise. However, as the leases end, it looks as though the price has reached its functional ceiling, leading the investors to sell the oil for a chance at recouping their expenses.

Trump Remains Dedicated to Domestic Oil Production

President Trump has stood by his commitment to reduce America’s reliance on foreign sources of oil. In one of his first Executive Orders, he directed the Environmental Protection Agency to approve the necessary permits on two oil pipelines, the Dakota Access and the Keystone XL. The Obama administration delayed both projects due to concerns about the impact of the pipeline on local water supplies.

The new pipelines will increase the flow of oil from Canada and North Dakota to a central refinery in Illinois. Additionally the OPEC quotas did succeed in raising prices above the low of $27 reached in January of 2016. This price was too low to justify exploiting the more common American resources, which include fracking and oil rich sands. At $50 per barrel, oil producers can now turn to these methods and still make a profit.

How Low Oil Prices Could Hurt the American Economy

The Trump administration may find themselves hoping for higher oil prices. Profits resulting from oil production on federal lands feature heavily in his budget forecasts. As shale production becomes more cost efficient, the ratio of oil extracted from government land has dropped in the last five years from one-third to one-fifth. This trend seems likely to continue, despite Trump’s pledges to make more federal land available to developers. Drillers choose sites based on ease of access and cost of acquisition. In America, privately held lands beat out federal resources on both counts.

How Will an Oil Price Decline Affect Trading?

If oil prices fall below $50 per barrel, this new level could become a ceiling. More OPEC countries will increase production, while they seek to gain at least some profit from their inventories. A glut could appear within a few weeks, causing price drops in a feedback loop.

Several business sectors will benefit from reduced crude oil prices, most importantly the transportation and chemical industries. Look for airline stocks to go up as the cost of refueling drops. Improved performance in these areas could result in the Dow and the S&P 500 maintaining their historic rises long term. Meanwhile the dollar could drop if investors feel that Trump will be unable to afford to keep his campaign promises due to the threat of lower oil profits.