Yesterday, a highly respected OPEC leader said, “Oil could shoot back to $200 a barrel.”
OPEC Secretary-General Abdulla al-Badri said, “Now the prices are around $45-$55, and I think maybe they [have] reached the bottom and we [will] see some rebound very soon.”
For the record, oil has never been at $200 a barrel. The Arab language is crowded with poets and proverbs and prone to hyperbole. And OPEC tends to talk its book.
The secondary proposed cause for higher oil prices is that the rig count in the U.S. is declining rapidly.
Rig Count
According to oilfield service company Baker Hughes (NYSE: BHI), there were 1,543 active oil and gas rigs in the U.S. during the week ending January 30, 2015 — 90 fewer than in the week ending January 23. This is the highest drop in rigs since January 2009.
That does indeed look like a cliff.
This chart represents $48 oil and the high cost of production. If you can’t make money at current prices, you shut down your high-cost wells.
That said, you will notice that natural gas rigs fell off the table in 2011/2012 and then flatlined. Natural gas rig counts fell dramatically from 1,800 to 300. And yet the price of natural gas remained low around $3.
Falling rig counts by themselves don’t mean oil will be shooting back up.
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Oil Adjusted for Inflation
Here is the oil price chart adjusted for inflation, which was published by Inflaitondata.com.
Click Chart to Enlarge
As you can tell, oil was between $20 and $30 while the U.S. was on the gold standard. We had the oil embargoes and high inflation in the 1970s.
More recently, the commodity supercycle really got going in 2004, when China went ballistic on growth and built excess manufacturing capacity and modern ghost towns in the desert. This boom died with the onset of the recession in 2009.
One could argue that in inflation-adjusted terms and barring overwhelming outside forces, the natural trade range for oil is between $20 and $40 a barrel.
There will be no oil price spike based on OPEC or China. China’s economy has slowed to 7.4% in 2014 — its lowest annual growth rate in a quarter century. OPEC’s share of production has been falling for 30 years, and there is currently a hot war in the Middle East with ISIS and a cold war between Iran and Saudi Arabia. The situation where OPEC can to boost prices in a 1970s-style oil shock no longer exists.
The bet on higher oil prices is predicated on the shutdown of U.S. fracking and a resumption of global GDP. The first is happening; the second isn’t.
However, investing is a buy low/sell high game. Right now, we are seeing very low prices in many oil-related companies, including oil service companies and emerging market explorers. The time to buy is during peak fear.
Oil will come back — the question is, are we at peak fear?
It is impossible to know. But we do know we aren’t at the top.
Now is the time to gather your list for a bottom. Determine the winners, and start nibbling. There are companies that will go up 1,000% over the next up cycle. There are also companies that will end up in Chapter 11.
Next week, I’ll tell you how to pick the survivors.
All the best,
Christian DeHaemer
Check us out on YouTube!Christian is the founder of Bull and Bust Report and an editor at Energy and Capital. For more on Christian, see his editor’s page.
