To the surprise of many, OPEC's most recently proposed production cut is actually going through.
In this clip from Industry Focus: Energy, Motley Fool analyst Sean O'Reilly and Fool contributor Adam Levine-Weinberg talk about how this will change the oil market given how the industry stands right now and whether investors might want to use this as an opportunity to buy stock in some oil companies.
A full transcript follows the video.
This podcast was recorded on Dec. 1, 2016.
Sean O'Reilly: We have to talk about the big news of the week, which is OPEC actually pulling off a production cut. Did your jaw hit the floor?
Adam Levine-Weinberg: A little bit. It seemed like it was going that way, but there were a lot of questions about whether OPEC would really get to a final agreement among its members, especially Iraq and Iran which were pushing back a lot on the idea that they would have to cut production.
O'Reilly: They were very publicly mean to each other at times. And I assume that's part of the negotiation process.
Levine-Weinberg: Yeah, it's part of the negotiation process, but you also have this problem where everybody in OPEC basically wants for OPEC to cut production. They just can't agree on who is going to do the cutting. Iran and Iraq would love for everybody else to cut production, because then they get to sell more at a higher price. The problem is, when you need to cut, unless it's spread evenly, then you have certain countries -- and in the past, it's usually been Saudi Arabia -- taking a lot of the brunt of lower production.
O'Reilly: Yeah. I remember when I was in high school economics class, talking about perfect competition and monopoly and all this stuff, and my professor talked about a cartel, and OPEC is the quintessential example. He was like, "You have every incentive to cheat." It doesn't make sense, because it would be like, if everybody just cuts production 2%, the price will double, and everybody wins dollar-wise. It is amazing to me how he was right.
Levine-Weinberg: Yeah. That's exactly true. Now, we should not, right now, assume that the price of oil is going to double. There are several factors --
O'Reilly: That was hypothetical, I apologize.
Levine-Weinberg: No, I see the point. Oil prices will, all things equal, go up. But there are some factors that are going to keep it down. First, you have really high inventories out there, because the past two or three years, everybody's been pumping way too much, at least a million barrels per day above what the actual demand has been. So, that's just all gone into storage. And even with this production cut it, it's probably going to take a couple of years to get inventories back down to a more normal level. On top of that, if oil prices go up by $10 or, especially if they go up by $20 a barrel, you're going to see a lot of activity by U.S. shale oil companies. In the past two years, they have been forced to cut their costs by a lot and become much more efficient. In 2013 and 2014 you would hear people throwing out $70 or $80 a barrel as breakeven. A lot of these companies are making money -- not a lot of money, but they are making some money at $50 a barrel. If you see those prices go to $70, they're going to be back in the market in a big way.
O'Reilly: For sure. Those guys down in the Permian Basin, you look at the cost curves of these companies, since 2012, you kind of have to tip your hat to them. Bottom line, does today's news make you interested in any oil stocks?
Levine-Weinberg: Marginally. I think, if you're looking to get into the oil market, it's not a terrible time to start thinking about those companies, I would really focus on the best in class, lowest cost producers, because those are the ones that are going to be able to ramp up production while actually still making money, as opposed to, a few years ago, ramping up production and not making any money.
O'Reilly: Wouldn't that be nice, to actually make money?