Is The Recent Rise In Oil Prices Sustainable?

Oil prices have steadily been rising over the last few days, currently close to the $50 level. Is this trend sustainable, particularly given the continued drumbeat of negative news from the broader economy?

In our view, while there is justification for the commodity’s recent positive momentum, it is by no means out of the woods yet. The macro backdrop still remains very challenging, with visibility on the economy front very poor.

We continue to recommend a defensive posture in the group, with tried and tested conservative names such as Exxon (NYSE:XOM) and Chevron (NYSE:CVX).

We do, however, recommend that investors start taking a closer look at the deepwater drillers, such as Transocean (NYSE:RIG), Diamond Offshore (NYSE:DO) and Pride (NYSE:PDE). These companies have extensive project backlogs that provide for visible earnings and cash flows this year and beyond.

So what are some of the positive developments pushing oil prices here? For starters, OPEC has been successful in taking a fair amount of oil off the market. The cartel had announced production cuts totaling 4.2 million barrels since last fall and has reportedly ensured a high level of compliance from its members (estimates of compliance run around 80%). With OPEC leaders scheduled to meet on March 15th in Vienna amid demands for further production cuts from some members, the cartel’s growing credibility has helped oil prices.

The U.S. inventory situation has also started improving over the last few weeks. But while the extent of the inventory build has eased, particularly at the critical Cushing Oklahoma delivery point, current inventory levels still remain significantly above year-earlier levels. We also remain wary of recent positive data points on the U.S. gasoline demand front given continued heavy job losses in the economy.

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