Since the steep fall in oil prices, the number of bankruptcies has been growing in US oil sector. Some figures suggest as much as 60 oil companies filed bankruptcies since 2015. Now the prices have recovered a little which should provide a breather space for the industry. However, you should know three reasons, arguably weird, that led to the record number of defaults.
No one attended basic supply demand class
Oversupply (coupled with reduced demand) is the one simple reason for the steep fall in oil prices from about $90 in the middle of 2014 to $30 levels in 2016. The basic economics lesson says that whenever the supply exceeds demand, one has to cut down the production so that prices do not fall. However, many oil producing nations, though concerned, didn’t do enough to decrease the production. Every producer feared the loss of market share in case of a production cut. However, they failed to realize what a market share is worth without a good price.
Oil wells/Reserves that existed only on paper
The US oil companies enjoyed the liberty of declaring oil wells that haven’t been drilled yet. The SEC had granted them the right but with a condition that they should start production within five years. The companies happily declared reserves and enjoyed credits. However, the 2015 price fall rendered the reserves unviable. All of a sudden billions worth of reserves that existed on records vanished.
Too much innovation that boomeranged
Innovation is always a good thing but too much could be a double-edged sword. The hydraulic fracturing technology improved so much that the production of shale oil and gas increased like never before. This production increase contributed its bit to oversupply. The OPEC countries on seeing shale production ramped up theirs too and oversupply became a norm.
Currently, the prices have recovered a bit, and hopefully the mistakes of the past do not happen again. Do you think the worst is over? Where do you think the oil prices will stabilize? Share your views.