Will the OPEC-Russia Oil Production Freeze Light a Fire Under Prices?

Sean Brodrick By Sean Brodrick,

Oil & Gas

In meetings earlier this week, Saudi Arabia and Russia agreed to freeze oil production at January production levels. Qatar and Venezuela also agreed to freeze production, asking other OPEC members to play along.

Is this the bottom for oil so many companies have been praying for?

Probably not. And I’ll show you why.

First of all, let’s say this situation is somewhat positive for oil bulls. Just a few weeks ago, many doubted that Russia and Saudi Arabia would even talk – let alone agree to freeze production.

That said, they’re freezing production at or near all-time highs.

Russia produced 10.8 million barrels per day (bpd) in January, making it the No. 1 producer in the world. And Saudi Arabia produced 10.2 million bpd in January.
And while Russia and Saudi Arabia remain No. 1 and No. 2, other OPEC members are also cranking up production.

On Tuesday, Iraq announced record oil production in January, averaging 4.7 million bpd.

In fact, all the OPEC producers are pumping flat-out. Some of them saw production fall in January. But that was due to production problems, which may be short term. In fact, overall OPEC production went up in January.

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According to our source, production from OPEC’s 13 members climbed from 280,000 bpd last month to 32.63 million bpd. That’s about 900,000 bpd more than the average required from the group in 2015.

That’s why global oil prices have fallen 19 months in a row, dropping to 12-year lows. Prices are down by about 70% from the June 2014 high.

Then There’s Iran

The U.S.-led coalition recently lifted sanctions on Iran’s oil exports. And Iran wasted no time ramping up production and pushing more crude to the market.
Over the weekend, Iran’s deputy minister of petroleum, Rokneddin Javadi, said his country boosted exports by 400,000 bpd. Most of that is to Europe. But Iran also wants to increase shipments to India and China.

Javadi says Iran wants to boost exports by another 200,000 bpd rather quickly. And many analysts expect that, over the course of a year, Iran can raise production by 700,000 bpd to 800,000 bpd.

Well, that will stop with this new agreement, right? Nope! Iran says it supports the agreement between Saudi Arabia and Russia. But it is not pledging to curb its production.

Global Demand Lags

According to the International Energy Agency (IEA), global oil demand grew by 1.6 million bpd in 2015. But the IEA expects demand growth to slack off considerably this year. It should climb only 1.2 million bpd.

Meanwhile, the world is oversupplied. We already pump more oil than we use to the tune of 1.5 million bpd. In 2016, this surplus could increase to 1.75 million bpd.

The industry disagrees on exactly how much extra oil is produced per day. The higher estimates range from 1 million bpd to 1.5 million bpd.

But that’s not the highest. Vitol, the world’s largest independent oil trader, said supply is expected to outstrip demand by as much as 2 million bpd in the first half of this year. Wow!

And what do you do when you have surplus oil? You store it.

Guess what? The world is running out of places to store oil.

The World Is Filled to the Brim

Here’s a look at the storage levels in Cushing, Oklahoma. Cushing represents 13% of America’s oil storage.

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Cushing has a working capacity of 73.014 million barrels. In the most recent week, it held 64.697 million barrels. That means Cushing is 89% full. That’s also a new record!

How about oil storage overseas? It’s even worse!

Heck, tankers carrying diesel from the Middle East and Asia are being diverted from Europe to the U.S. East Coast because there simply isn’t room to store the fuel in Europe. The tanks are full. Gasoline inventories in Europe’s Amsterdam-Rotterdam-Antwerp hub is at an all-time high.

So where are the oil and oil products going to go? Energy executives say crude will still start moving onto oil tankers at sea as on-land storage fills up.

How You Can Play It

I think some tanker stocks look great here. Many of them got hammered hard in January and still haven’t recovered. Some pay excellent dividends. And they’re reporting great earnings. Look for stocks with rising earnings, revenue and operating margins.

The market is snubbing such stocks because it doesn’t expect great earnings to last. But the fundamentals say otherwise.

Bottom line: The production freeze Russia and some OPEC members have agreed to is a great first step. But with the world already in oversupply – and getting more oversupplied by the day – it’s not enough. Barring a black swan event, oil supplies will likely go higher. And oil prices will likely go lower.

I expect oil prices to bottom later this year. But we’ll take another look when we get there.

Good investing,

Sean