Optimism Runs High In Wake of Historic Deal

Even before the OPEC deal to cut production on November 30th, and the subsequent agreement by non-OPEC members to join in the freeze/cuts on December 9th, optimism was running high in the oil industry. As you might recall from our earlier articles on earnings, several major OEM CEOs were calling bottom and talking about recovery. The Saudis, prior to the OPEC meeting, were declaring that oil markets would reach balance regardless of market intervention by OPEC. Yes, optimism was high before the meeting and is even higher now. Here is a look at some of the things we know.

In addition to the production cuts by non-OPEC producers discussed in this week’s article about non-OPEC members joining the freeze, we got the good news from Saudi Arabia that it was willing to cut deeper if necessary. As I mentioned in that article, this is huge and I will discuss in this week’s Ty’s Take the Saudi’s ability to cut further and why I think they will adhere to the agreement. But it tells me the Saudis are serious. And that is what matters.

In addition, the International Energy Agency (IEA) has increased its demand growth forecast for 2017 from 1.2 million barrels per day to 1.3 million barrels per day, due in part to robust demand in the United States. Additionally, the IEA has said that, assuming OPEC and non-members adhere to production quotas, oil will not only reach balance, but global inventories could start to draw in the first half of 2017. This is better than prior projections that showed markets reaching balance in second half of 2017.

            On Thursday, Kuwait’s new oil minister Essam al-Marzouk said that in the wake of the output cuts, he anticipates oil climbing to $60.00 per barrel once the agreement takes effect next year. While he gave no indication for his timeframe for such a prediction, he did state that he believed oil would stabilize in the $60.00 per barrel area. Kuwait has been appointed the head of the compliance committee to monitor member participation, and the Minister stated that he was very confident that members intended to comply. He further stated that while Saudi Arabia and Kuwait intend to resume production from two fields in the neutral zone, Kuwait would cut from other fields by an amount equal to the increased production from the neutral zone in order to comply with its agreement.

In an interview with Squawk Box, Hess CEO John Hess stated that given the production cut agreement, the friendliness of the incoming U.S. Presidential administration to oil, he believes we are beginning a new chapter of rising oil prices that will attract investment. He further appears to believe that new investment is, at this point, necessary, to insure continuing supply to keep up with world demand. Mr. Hess predicted $60-$80 per barrel oil next year.

So we already know what some very smart people think is going to, in all likelihood, happen. But we see these people starting to put their money where the mouth is. Despite Wood MacKenzie’s prediction that exploration expenditures would decrease in 2017 or remain flat at its already depressed 2016 level, a number of comments from big oil’s big execs suggests otherwise.

Gulfort Energy Corp just struck a deal to purchase acreage in an oil and natural gas field in Oklahoma for $1.85 billion. The significance of the deal is it is a bit more risky as it is outside the traditional heart of the U.S. shale gas boom. To me, this indicates a greater willingness for risk taking which is characteristic of a belief in higher prices.

On December 05, 2017, several producers agreed to pay the Mexican government billions of dollars for the right to drill in the Country’s portion of the Gulf of Mexico. The Mexican Government awarded eight separate blocks to traditional oil giants Total, Exxon Mobil, and Chevron. A significant new player is China National Offshore Oil Corporation which won two of the blocks. While the area is not expected to produce significant amounts of oil for at least a decade, the willingness to invest shows some increased optimism by big oil that offshore will become profitable again and they are willing to shoulder some costs now. Furthermore, as we all know, exploration and planning will have to be put into place relatively soon which tells me big oil is betting on the recovery, perhaps sooner than many analysts anticipate.

While I see every indication that oil is going to go up, and I see a bunch of smart people who agree as well, I would be remiss if I didn’t point out that there are contrarian views. You can find respected traders who are incredibly skeptical that any rebalance will occur, or that OPEC and non-OPEC members will adhere sufficiently to the agreement so as to cause a market shift. And, unfortunately, there does seem to be some evidence that many oil traders agree as markets have not shifted significantly yet to indicate they believe that future delivery dates for oil will have higher priced oil. Read more on this topic in this week’s Ty’s Take.

By: Ty Chapman
Five Star Metals, Inc.
Raising the Bar for Customer Service and Quality
Twitter: @FSM_TY

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