Should We Start Investing In Oil Again?
Oil has been a sore spot for investors over the past couple of years. The Organization of the Petroleum Exporting Countries (OPEC) decided to maximize oil production regardless of global demand, driving prices down in an attempt to bankrupt foreign competitors, like U.S. shale oil, and keep control over the oil market. In the summer of 2014, oil took a hit and fell precipitously to the upper $30’s back in early 2016.
For years, oil struggled to break out of the $40 price range, leaving energy investors on the sidelines wondering when the crisis would end. Protracted low oil had a detrimental effect on companies that needed oil at a higher price to justify their cost of operations. But OPEC’s war had the unintended side effect of streamlining the companies that were able to weather the storm, making them leaner and more efficient.
The Winds are Changing
Non-OPEC oil producers met OPEC’s challenge head-on. The companies that were able to adapt only became more competitive, to the point that even OPEC-producing countries like Saudi Arabia could no longer sustain oil at such low values.
With oil beginning to tick higher toward the end of 2016 and trade based on macroeconomic fundamentals rather than OPEC cartel influences, a historic deal was made. An agreement to cut production by 1.8 million barrels a day was made for 2017 with the first cuts already enacted. Saudi Arabia surprised analysts by cutting more than expected in January, helping lift oil prices to the mid-$50’s – a level not seen in two years.
But the production deal isn’t the only tailwind for oil right now. Oil production in the United States is ramping up again thanks to development in the Permian Basin in west Texas. Activity in the region is responsible for more than half of all U.S. oil rigs with 267 currently in operation.
Total rig count is growing as well, with more being added every week. Total rig count is up to 655, up from a historic low of 404 back in March, less than a year ago. Compared to the growth in the Permian Basin, the next most active drilling site is Eagle Ford shale, which is home to 47 rigs.
Oil is now trading steadily above $50 per barrel with most analysts expecting prices to continue to rise as the year goes on. But the industry still faces some challenges that may be hard to overcome.
Despite Cuts, Challenges Remain
U.S. shale producers were a major factor along with the OPEC overproduction in 2014 that sent oil prices crashing. Since then, though, surviving oil producers have managed to become far more efficient and are able to produce oil at a much lower cost.
That means oil companies are able to increase production with oil at much lower prices than before, effectively canceling out the OPEC production cut for 2017. New developments like the Keystone XL and Dakota Access are set to come online this year, as well, which could easily provide enough oil to overshadow the cuts, despite growing concerns of the tribe people who live there, who rely on safe, clean drinking water and who have been protesting its development for months.
In the end, investors need to be careful with future oil price expectations. The OPEC deal to cut production seems to balance out the increase in U.S. shale oil production. While OPEC’s market cartel might officially be on its way out, the forces of supply and demand aren’t forgiving. Oil will start to trade more in line with fundamentals moving forward, and as the environmental ramifications of oil drilling continue to shape public opinion, global growth will be one of the major factors in how oil prices perform.