Libya's Oil Comes Back Online: Opportunities Abound

by: Hard Assets Investor

By Amine Bouchentouf

War-torn Libya’s oil output is crucial to the global economy and there are several ways to gain investment exposure.

Oil markets are constantly in a state of flux, and any change in either the supply or demand side of the equation — however small — can have an outsized effect on global prices. Libya is an excellent example of how an important oil producer can have a large influence on oil prices worldwide.

While Libya isn’t the most important oil player in the world, it is large enough that any disruptions result in a direct effect on global prices. Libya has current reserves of 46 billion barrels of crude, making it the largest holder of oil in Africa (ahead of powerhouses Nigeria, Angola and Algeria) and the ninth-largest globally.

During the bloody civil war that engulfed the country for much of the second and third quarters of 2011, Libyan oil production plummeted from 1.3 million barrels a day to 10,000 barrels a day in August during the bloodiest phase of the conflict.

Since Gadhafi’s death, oil output has picked up and currently stands at 400,000 barrels a day. As the security and economic situation improves, I expect to see production increase significantly, although it’s still not clear when Libyan output will reach pre-civil-war levels.

Libyan Crude

While Libyan crude output represents a relatively small fraction of global daily output (about 2 percent), it is significant for several key reasons. First, the current global supply/demand balance is so tight that any small change in output has a direct effect on global benchmark prices.

When Libyan violence erupted on Feb. 18 in Benghazi and oil output dropped, Brent crude jumped from $100 a barrel to $127 in April (when more than 1 million barrels a day of Libyan crude went offline). In fact, the shock was so violent that the Saudis (the world’s oil central bankers) had to step in and calm markets by increasing their output by about 1.5 million barrels a day to make up for the lost Libyan oil.

Libyan crude is also important because of its high quality, which is in high demand because it’s a light, sweet crude that’s easily refined into products such as gasoline, heating oil and jet fuel. This is in stark contrast to the heavy oil coming out of Canada or Venezuela. Therefore, while Libyan crude may not represent a large percentage of global production, it is a critical player in the higher end of the market, which is another reason why prices jumped as high as they did when Libyan production went offline.

Finally, Libya is a crucial player in the world market because it’s a major supplier to key global economic blocks. Specifically, Libya is a major exporter to Europe and China; in fact, 84 percent of its exports go to these two important regions. It’s such an important player in Europe that countries such as Italy, Ireland and Austria import more than 20 percent of their total oil needs from the country; France and Switzerland rely on over 15 percent of their total imports from Libya.

Because of this, Libya is a major component of the Brent price equation. So when it went offline, Brent prices increased relative to other benchmarks. In fact, Libya has been part of the reason Brent has been trading at such a large premium over WTI. For a more comprehensive analysis, please read my previous column on the Brent/WTI spread.

Rushing Back In

With Gadhafi’s death, the country is slowly transitioning back into a normal state and beginning to ramp up its oil production levels. During the civil war, many international companies were forced to stop their operations and flee the country because of security concerns. Many companies are now rushing into Libya to help it modernize its oil industry and reach its potential as a premier oil producer and exporter. Here are some companies that stand to benefit from a rejuvenated Libyan oil industry.

The Italian energy company Eni SpA (NYSE: E) has been very active in Libya for decades. Libya exports almost one-third of its oil to its Mediterranean neighbor, and Eni is a key energy link between the two countries.

Another company worth looking at is ConocoPhillips (NYSE: COP) which was the first American company to resume production with Libya in the post-embargo period. COP is part of a consortium that has an exploration and production concession that encompasses more than 10 million acres in Libya’s Sirte basin. This Houston-based major gives you indirect exposure to Libya’s prolific oil industry.

Finally, if you’re looking for broad exposure to the country, then you should take a look at the PowerShares Dynamic Oil & Gas Services ETF (NYSE Arca: PXJ). PXJ tracks several oil services companies that have broad exposure to Libya. PXJ includes companies such as Baker Hughes (NYSE: BHI) and Schlumberger (NYSE: SLB), which are active not only in North Africa but in other key producing regions. With PXJ, you get some exposure to Libya and other geographies such as Western Africa and Southeast Asia. For broad-based industry exposure, PXJ is a good option.

Disclosure: The author doesn’t have any positions in the stocks mentioned.