Will OPEC’s Cuts Ignite a U.S. Shale Boom?

David Fessler By David Fessler, Energy and Infrastructure Strategist, The Oxford Club

Oil & Gas

In a few weeks, OPEC will begin to cut 2017 production levels by 1.2 million barrels per day. Russia is also on board, claiming it will cut as much as 300,000 bpd.

The goal is to raise oil prices – something most OPEC members desperately want and need. Saudi Arabia, Iran, Iraq, Venezuela and others all depend on oil revenues to run their economies.

This is great news for U.S. energy investors. That’s because OPEC just opened up Pandora’s box…

For the last several years, low crude prices have been hard on the economies of Saudi Arabia and other OPEC members. They’ve been hard on U.S. exploration and production companies and their shareholders, too.

Remember that WTI crude bottomed out at $26.21 per barrel in early 2016. Many E&P companies went bankrupt.

But crude prices have rallied and now stand at $53.69 per barrel, an increase of 104.8%. That’s good news for the E&P companies who survived the low-price rout.

Those that survived are lean, mean and ready to compete with the Saudis and the rest of OPEC.

And there’s more good news for the survivors…

In 2017, OPEC’s production cuts should pay off. If they do, oil prices will top $60 per barrel. And even if demand remains flat (and the International Energy Agency expects it to grow by 1.3 million bpd this year), that gives U.S. producers the opportunity to take some market share away from OPEC producers. This will likely embolden U.S. producers to fire up more rigs.

But the jump in oil prices could be short-lived. By the end of this year, U.S. production increases could counter whatever cuts OPEC makes.

That means now is the time to invest. After all, U.S. supply could top 9 million bpd this year.

You’ll remember U.S. crude production bottomed out in early July at 8.42 million bpd.

Since then, production has increased by more than 340,000 bpd. It now sits at 8.77 million bpd.

That’s nearly as high as it was two years ago. There’s just one major difference…

U.S. E&P companies are producing nearly the same volume with just one-third of the rigs. But since May, when OPEC started talking about cutting supply, U.S. producers have piled on 200 more rigs.

So is OPEC’s big cut going to work? I personally doubt it. The last time OPEC tried this, nearly every member cheated on its assigned quotas.

There’s no reason to assume members won’t do the same thing this time. And even though Russia agreed to participate, it now says it’s going to wait and see how the rest of the members comply.

It’s also worth noting that the last time OPEC did cut, Russia didn’t. So even if OPEC sticks to its word, Russian cuts aren’t a sure bet.

There are at least three or four good quarters ahead for lean and mean U.S. E&P companies. In the short term, with demand increasing and supply decreasing, prices should jump. And that will go straight into the pockets of U.S. producers. My advice is to look for companies with extremely low debt-to-equity ratios (less than 0.25).

There are a number of them, and most have at least some exposure to the Permian Basin. The Permian is the North American basin with the lowest cost of production.

There’s no question that some U.S. producers will have the last laugh over Saudi Arabia’s failed attempt at protecting its market share. U.S. investors ought to have one or two of these companies in their energy portfolios, and the time to buy them is right now.

Good investing,

Dave