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Chart shows oil rig count may have long way to fall

A pedestrian walks past pumpjacks operating at the Inglewood Oil field in Los Angeles.
Patrick T. Fallon | Bloomberg | Getty Images
A pedestrian walks past pumpjacks operating at the Inglewood Oil field in Los Angeles.

The Baker Hughes oil rig count is getting more attention these days.

Every week, the oilfield services company releases its count of the number of active rigs across all of the U.S. oil industry. It's an important barometer of how much drilling is going on, and markets watch it to see if there are any big changes or trends. The newest number, released Friday afternoon, showed the number of active U.S. oil rigs down by 10 to 1,536.

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With oil prices dropping dramatically since summer, the number has taken on heightened importance as traders watch to see whether the industry is cutting production in the face of lower revenue.

If the past says anything, the industry has been slow to react to price drops. The chart below looks at the past 20 years of oil prices and rig counts. Oil prices always lead, while rig counts lag behind.

The most compelling part of the chart is in 2008, when the economic meltdown sent oil prices tumbling. Rig counts didn't respond until much later, dropping meaningfully just as oil prices were bottoming. Rig counts continued their decline even as prices had started to bounce back.

A similar trend happened in the late-1990s, when prices dropped well ahead of rig counts, while the industry was still cutting production even as prices had started to come back. And in the aftermath of 9/11 the same pattern emerged, oil prices dropping and eventually rig counts following, after prices had started to come back.

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The trend suggests that rig counts will probably stay stable for a while, and only drop once prices have bottomed out. And this decline might have more to go than in the past. The blue line (rig counts) overtook the red line (prices) on the chart a few years back as the U.S. shale boom hit its stride. Most shale drillers are small, independent firms.

Generation-high rig counts suggest there is a lot more capacity that could be turned off compared to the past, if prices stay this low.