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R. Vanzo
R. Vanzo
Articles (164) 

T. Boone Pickens Calls an Oil Bottom

Low oil prices likely can't persist past this year

January 21, 2016 | About:

At $27, the cost of filling a barrel of oil is less than the purchase price of the barrel itself. While there is growing evidence that Saudi Arabia won’t be rescuing the market anytime soon, legendary investor T. Boone Pickens believes that the U.S. may be able to balance the supply glut on its own.

Rig counts presage a rebound

Baker Hughes (BHI) recently released its rig count data, tracking the global supply of oil rigs currently in operation. As can be expected, rig counts have fallen by roughly 50% since oil prices collapsed, with nearly every global producer looking to slash costs even further over the next 12 to 24 months to maintain financial stability.

Leading the way in rig count reductions is the U.S., responsible for over 50% of the global decline. Pickens has outlined the previous routs in oil, where the rig count was cut drastically, and prices rebounded strongly. In 1998 he said, “oil dropped to $10 and you cut rigs in half, a 1,000 down to 500. Then the 2001 recession and 2008 recession and they were cut about 40-50 percent. So, you're going to have the same thing now." You can go all the way back to 1981 when the U.S. had 4,521 rigs operating. That was cut in half in about 12 months.

Why hasn’t supply rebalanced then?

While oil rig counts have fallen, U.S. supply has only faltered slightly. The latest data from the EIA (which is through October 2015) shows supplies remaining steady near 300,000 barrels. Production has actually grown in many of the regions it tracks.

Many companies have forced slashed budgets to focus on high quality assets that are inexpensive to produce. While this has kept volumes elevated, this easy and cheap production won't last long.

Reuters estimates that around 50 listed U.S. independent oil producers and scores of smaller ones need $40 to $60 a barrel to break even. Continued $30 oil will confront them with stark choices: bankruptcy, debt write-downs in return for deep concessions to creditors or fire sales of assets at a time when potential buyers are skittish.

"There's no place to make cuts anymore. There's not much else you can do now. Companies are losing money on a monthly basis. It's bad everywhere. I went through the bust in the 1980s and it's beginning to feel like that again." - Raymond Lasseigne, president of TMR Exploration

Even the historically over-conservative EIA expects higher prices over the next 12 to 18 months. Its Short-Term Energy Outlook released on Jan. 12 forecasts that Brent crude oil prices will average $40 per barrel in 2016 and $50 a barrel in 2017. The forecast expects the oil glut to be absorbed sometime next year, implying that prices may find stability at these higher prices.

Pickens may have been early, but his prediction should play out over a reasonable time frame.

About the author:

R. Vanzo
Ryan has been covering public equities for more than a decade. He has worked on the investment research teams for several multi-billion dollar hedge funds in San Francisco and New York.

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