It was inevitable that oil investors would enjoy themselves today, following OPEC’s surprise move to cut oil production for the first time in eight years. Few will begrudge them their day in the sun after recent storms. Goldman Sachs reckons the oil price could rise by $7-$10 in the weeks ahead so is now the time to buy oil explorers such as Premier Oil (LSE: PMO) and Tullow Oil (LSE: TLW)?
Cut, baby, cut
Oil investors will be hoping for further talk of output cuts at OPEC’s November meeting, with possibly a bigger cut ahead. Crude typically struggles in the final quarter of the year, but maybe 2016 could be different. However, bringing Saudi Arabia, Iran and non-OPEC Russia into line won’t be easy, and today’s positive sentiment could quickly reverse.
Still, let’s enjoy what we have, which has pumped up Premier’s share price by more than 7% this morning, while Tullow is up nearly 10%. Both stocks are still trading at around 80% lower than they were five years ago, so this is mostly just making up for recent losses.
Roll in the barrel
If enacted, the OPEC deal could remove up to 800,000 barrels of oil per day from oversupplied oil markets but that still leaves supply near-record highs (even assuming oil nations comply with the production cap). It will also do little to revive slack global demand, or combat the flexibility of US shale producers, who may start returning in force. Rig count numbers are already rising, and pricier oil will only encourage that trend (and also give renewable rivals a boost). If the US Federal Reserve finally hikes rates in December – which it probably will if only out of sheer embarrassment at this year’s timidity – the stronger dollar could squeeze demand.
Both Premier Oil and Tullow Oil could do with higher prices running into 2017 as their hedges at around $75 a barrel will run out at the end of this year. However, they’re not completely helpless in the face of global oil price swings. Premier turned last year’s $214m first-half pre-tax loss into a profit of £110m this year, despite revenue falling from $577m to $393m, by slashing its operating costs to just $16.50 a barrel.
Power of TEN
In August, Tullow opened its new TEN field off the coast of Ghana on time and on budget, with prospective operating costs of around $9 per barrel. That is a massive discount to today’s oil price, and if crude continues to rise, the discount will only widen. Better still, the hefty investment costs in this field are now over, and the rewards can start flowing.
Debt remains a concern for both Premier and Tullow, which owe $2.63bn and $4.7bn respectively. Both companies remain at the mercy of oil price movements they’re in no position to control, and despite their shrunken operating costs they need a sustained period of higher prices if they’re to start eroding those debt piles.
If OPEC delivers on its production cuts, oil could breach $50 and climb further, which would then tempt investors back into the market, pushing the price even higher. Yet both Premier and Tullow will remain risky if shale drillers quickly plug the gap left by any output cut.
