OPEC is a cartel of major oil producers, led by Saudi Arabia and Russia. It met last week (Wednesday) and decided to make its biggest production cut since the start of the pandemic. The decision to slash oil production by 2m barrels per day is a move that will likely send gas prices higher.
Consumers and governments will not be big fans of this move. Rather, the biggest winners will be FTSE 100 oil stocks and their shareholders.
Bullish market reaction
The cut to production, equivalent to about 2% of global oil demand, won’t begin until November. However prices received an immediate boost.
The price of oil (Brent crude) rose 7% last week after the announcement. Meanwhile FTSE 100 oil and gas stocks have flourished as a result. I noted heavyweight FTSE 100 oil stocks BP and Shell leading the sector’s rise, hot on the heels of the OPEC decision.
Why the positive market response? Because supply cuts likely mean higher profits for energy companies.
I do not see this as a mere temporary bull signal to buy energy shares. I truly believe this will mean higher oil prices and higher cash flows for the energy majors over the medium to long term.
Furthermore, I believe the production cut will lead to higher dividends and stock buybacks among energy companies.
Reaping the rewards
This is all in addition to what has already been a strong year for stockholders of FTSE 100 oil majors.
The seven supermajors (across the UK and US markets), including BP and Shell, are predicted to return a record amount to shareholders through buybacks this year. These companies have reaped the rewards of high energy price rises amid constrained supply and elevated post-pandemic demand.
FTSE 100 oil bull run to continue
Frankly, I think this oil sector bull run can continue well into next year.
The OPEC cut is something that will keep energy prices high or push them even higher. In addition, the International Energy Agency (IEA) recently warned that gas supplies will remain tight next year due to Russia’s invasion of Ukraine. The combined effect has heightened my worries that inflation will remain higher for longer. If so, this will prolong the need for aggressive interest rate rises by global central banks.
This is problematic for the majority of companies listed on the FTSE 100 that depend heavily on debt capital. Nevertheless, I need to find stocks within the index that can thrive in a high inflation and potentially recessionary environment.
Recession is a double-sided coin for me though. A global one could seriously deplete demand for oil — which would be a sledgehammer to the profitability of oil stocks.
However, I believe the oil sector has been a clear winner ever since global inflation started ticking upward. Just look at the performance year to date: the FTSE 100 is down nearly 10%. Conversely, BP shares are up nearly 30%.
Shell shares are up by even more (35%).
Certainly, I do not foresee current conditions reversing any time soon, so I expect a similarly stellar performance from the oil sector’s leading companies. Earnings season is near, with Shell up first on 27 October. The upcoming results are the last piece of the puzzle that will help me decide which of the sector offers the best value. Then I’ll buy.
