Drill, baby … not so fast?

After President Trump said in his inauguration speech that the U.S. would “drill, baby, drill,” some experts, myself included, noted that oil demand and, consequently, oil prices have to be high enough in order for this to happen.

If the demand for more oil isn’t there, some oil producers fear that the market will become oversupplied. Those concerns aren’t unwarranted, especially since the International Energy Agency (IEA) has predicted that that the global oil supply may exceed demand. Moreover, that prediction was before the U.S.’s announcements of large tariffs, which could push global oil demand lower due to slowing economies in China and other export-heavy countries, and anticipated slower growth in the U.S.

Taking this a step further, if the market does become oversupplied, that likely would push prices lower. Although that might at first sound like a good thing to consumers and businesses who are looking forward to lower gas prices, these lower prices would, in turn, discourage oil producers from drilling more, which would lower supply and raise prices again substantially in the future.

This is all to say that “drill, baby, drill” isn’t so simple.

Can “drill, baby, drill” happen?
The Trump Administration’s pro-drilling stance is part of Treasury Secretary Bessent “3-3-3” economic plan that includes increasing economic growth to 3%, cutting the budget deficit to 3% of gross domestic product (GDP) and increasing U.S. energy production by three million barrels a day.

At first glance, increasing oil production may sound overwhelmingly positive to both producers and consumers, even if lower prices at the pump are short-lived. On the other hand, bills have to be paid, and energy investors are looking for positive rates of return, which calls into question whether “drill, baby, drill” will make sense.

Drilling technology has increased dramatically in the last five years and efficiencies have helped oil companies produce more oil with fewer rigs. Nevertheless, there comes a breaking point. This breaking point, in my opinion, is West Texas Intermediate (WTI) oil priced at $62/barrel. Drilling and producing at WTI prices near or below the $62-per-barrel area doesn't pencil all that well, so as good as “drill, baby, drill” may initially sound, it may not make sense for producers. For that reason, anything below $62/barrel will likely slow global production, not speed it up.

In order for increased drilling to occur, I believe WTI prices will have to be north of $75/barrel; otherwise, the incentive for producers to drill more simply won’t be there. Moreover, in some areas, that price point is probably closer to $80/barrel.

Global oil market still has many moving parts
Finally, from a global perspective, the “what-if” for oil prices going forward has a lot of moving parts—and that was true even before tariffs entered the equation. Tariffs aside, the biggest variable in my opinion is the Russian/Ukraine war. A peace deal would very likely include Russia being able to return all of its oil products to the world market, which would increase the global supply even more. That increase, along with a slowing global economy, could flip the scales quickly to an oversupplied status and bring prices down with it.

At the same time, there are some factors that may push oil prices higher. For instance, crude storage and inventories remain well below the five-year averages. Driving season traditionally begins in April, though there is the chance that consumers’ concerns about the economy could reduce road trip activity this year. As of this writing OPEC + has added 400k bbls/day (triple what they forecasted) and at the same time tariffs have been raised substantially to China (the world’s largest importer) which has wreaked downside havoc on crude prices. So, while the Trump Administration has successfully lowered oil prices, it’s had little to do with “drill baby drill”.

The light at the end of the tunnel is that the cure for low prices is near term lower prices; In that prices below a sufficient rate of return halts drilling activity/production. This also makes OPEC+ think twice about raising production during falling prices. Keep in mind that they have tried this before and the outcome for them ended up not in their favor.

The excitement of “drill, baby, drill” is great for the press; however, for the producer, for whom a price point below $75/barrel is not very enticing, the sentiment will likely be “not so fast.”