Since you asked: Why the 'fracklog' may mean no boom in oil prices

"Oil rebound tests its limits" Financial Times, May 6

So crude oil is nearly back up to the price at which it was trading on November 27 - the day the Opec oil cartel decided not to cut production but rather to start a price war with the US shale producers. Right?

Yes. This week North Sea Brent, hit a level just shy off the low achieved that day of $71.25 per barrel.

Ah. So prices have gone right back up. Has Opec had the last laugh after all?

Actually, now could be the moment things become interesting again.

Why do you say that?

The recovery in the price, from a low in January of $45 per barrel, is caused by a combination of predictable factors. First, as any armchair economist would predict, low prices have led to a rise in petrol consumption in the US and China. This in turn has led to a rise in prices at the pump, encouraging refineries all over the US to transform as much crude oil into refined product as possible before summer - which is when US drivers go on vacation and use a lot more petrol.

Isn't the US supposedly overflowing with crude supplies?

Inventories are more than 121m barrels above their usual level for this time of year. In the past few weeks, however, the rate of increase has slowed, with the first reduction in stocks in 16 weeks being recorded at the start of May.

So does the price rise mean it no longer pays to withhold oil from the market?

In a way, yes - but the economics of doing so are not what they used to be. There is still a "contango" market, meaning the price of oil for delivery in the future is higher than the price for delivery today - suggesting it still makes sense to buy oil today, sell it forward and sit on it until delivery. But once the price of storage and financing are factored in, it is not profitable. BP, for one, has already stated that it plans to offload some of the $1.25bn-worth of oil it had stored in order to take advantage of the new conditions.

Hang on: if oil companies that have previously stored oil then start selling that oil, won't that knock down the price?

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But I thought US shale oil producers had been cutting output to compensate for global oversupply.

Energy majors have indeed slashed investment in future production, and the number of existing oil-drilling rigs has been reduced by more than half - but there is uncertainty about how long these shutdowns will go on.

I have a feeling you're going to tell me that is something to do with shale gas . . .

Actually, I was going to introduce you to a new jargon word doing the rounds in the oil industry.

What's that?

Fracklog.

And what is that?

Fracklog refers to wells that the shale-oil producers have drilled but not yet tapped, preferring to delay output until more favourable price conditions return. But these wells can be made operational very quickly, and with minimal effort, because most of the work has already been done.

How quickly is "quickly"?

Some say as little as a couple of weeks. Which means the fracklog arguably puts shale into direct competition with the oil already in storage on the surface.

Wait - are you saying that, because shale producers can use Mother Earth as a storage facility, that gives them a certain advantage over those storing oil in tanks?

That's right. And what's more, given that there may be hundreds of these uncompleted wells standing ready across the US, we should expect a rush of extra supply to hit the market as soon as prices reach what is believed to be the break-even figure for most shale producers of $70 a barrel for another benchmark oil, US West Texas Intermediate. This week EOG, the largest US shale producer, said it might even be profitable for it to resume production at prices as low as $65 a barrel.

Sounds to me like a rush for all the petrodollars the industry can get.

In many ways it is similar to the "every man for himself" mentality that plagued the Pennsylvania oil rush of the late 1860s and 1870s, which helped to contribute to the endless spree of booms and busts during the era.

Perhaps, then, we should also expect a John D Rockefeller-type character to emerge as efforts to organise the chaos become more pronounced?

Or beware of the reincarnation of a new monopolistic entity like the old Standard Oil.

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