What the Collapse of the OPEC Cartel Means for Oil Prices - TheStreet

NEW YORK (TheStreet) -- OPEC's failure to agree on production cuts at Thursday's meeting in Vienna left the oil cartel in disarray. Brent crude prices plunged $6 on the news to around $71 a barrel, while West Texas Intermediate oil declined to around $69.

The surge in new oil supplies has essentially broken the power of the Organization of Petroleum Exporting Countries, which has ruled the oil market since 1973. We're in a new world of freer markets and lower oil prices, but we shouldn't assume that truly cheap oil -- the $1 a barrel of 1971 or $10 a barrel of 1998 -- will ever return.

From the nadir of 1998 until 2011, oil prices had been on a steady upward trend. Demand had been increasing, especially from the newly wealthier economies such as China and India, while supply had been fairly sticky, with only modest new fields adding to the fairly constant flow from OPEC. Indeed several OPEC members, such as Venezuela, Mexico and Nigeria, were seeing oil output decline. By 2011, after the worst of the recession had lifted, oil prices had risen to above $100 a barrel, and there was much speculation about $200 oil, and what effect that would have on the U.S. and other Western economies. 

It didn't happen. Output from the Canadian (and potentially Venezuelan) tar sands was profitable at $100 a barrel, and so increased. The new horizontal fracturing (fracking) techniques enable oil to be extracted from U.S. shale, in a way that before was economically impossible. The gradual ramp-up in fracking output has pushed the U.S. toward self-sufficiency, opened dreams of new oil production in Europe from places like Poland and reduced the market share of OPEC oil.

Last July, the market cracked and became supply-driven rather than demand-driven. Oil prices began to drop and, at this meeting, the OPEC members found they were powerless to stop the drop. The oil cartel's market share is now so low, and the interests of its members so diverse, that it has lost its power to control the market, even partially.

That doesn't mean that oil prices will drop back to $10. At some point, probably fairly close to the current $70, much of the tar sands and fracking output will become unprofitable. Already drilling for new offshore oil looks unattractive, which is why Seadrill (SDRL) - Get Report  eliminated its dividend on Wednesday and saw its stock drop by 23%. Oil prices could fall to say $50 but they'd have to bounce back pretty quickly because a lot of tar sands and shale output would go offstream, reducing supply sharply below demand.

Oil prices thus seem likely to remain in a band between say $65 and $100, closer to the bottom of the band at present as supply continues to increase. Above $100, demand declines and supply zooms up as new areas start fracking. Below $65 to $70, demand increases while supply drops off. At current prices, unconventional oil production is profitable, but only marginally so, while Saudi Arabia, the low-cost producer, continues to make money but can no longer dominate the market. 

That's more or less a free market, which is good news because we need no longer be driven by the politics of the troubled Middle East. It's good news for the global economy, as Japanese, European and U.S. consumers find more money in their pockets. It's bad news for OPEC members, such as Saudi Arabia, which loses global clout, and Russia and Venezuela, which run out of money even faster. 

It's as if the oil shock of 1973 never happened.

At the time of publication, the author held no positions in any of the stocks mentioned.

This article is commentary by an independent contributor, separate from TheStreet's regular news coverage.