How To Benefit From Brazil's Emergence As A Major Oil Producer

Includes: KPELY, NOV, PBR
by: Josh Cohen

For as long as most of us can remember the center of gravity in the oil industry has been the Middle East. Indeed, Saudi Arabia has long been the key producer globally with its ability to quickly ratchet its oil production up or down. In the same way, however, that the world is becoming more "multipolar" politically, we are also seeing emerging signs of multipolarity in oil production as well.

One country that has been at the forefront of this trend has been Brazil. As the graph below shows, Brazilian oil production has been trending upwards, and the latest data is that as of the end of 2011 Brazil was producing approximately 2.2 million oil barrels per day (bpd).

Brazil Oil Production

Furthermore, as this article in the New York Times notes, Brazilian oil production is set to more then double in the next eight years to approximately 5 million bpd, which would make it the fourth leading oil producer in the world after Saudi Arabia, Russia and the United States. The major reason for Brazil's potential growth lies in its offshore oil fields. Brazil had two major oil finds in the waters off its coast during the period between 2007 and 2009, the Libra and the even larger Tupi. What is both fascinating and challenging about Brazil's oil bounty is its location 5 - 7 kms underneath the surface of the ocean in the so-called pre-salt layers.

The extraction of pre-salt oil requires an offshore rig with a special drill bit able to bore through several thousand feet of salt to reach the treasure below. This type of offshore drilling requires a special capability, and it is for this reason that I see one interesting way to play Brazil's offshore oil boom to be buying makers of the "picks and shovels", i.e. the drilling rigs manufacturers themselves. The world's largest rig manufacturer is National Oilwell Varco (NYSE:NOV), which benefits from economies of scale due to its size and has recently won several tenders for Brazil.

Another stock I like is the Singaporea company Keppel Corporation, which trades as an ADR in the US under the symbol OTCPK:KPELY. Keppel specializes entirely on the production of offshore drilling rigs, and in April won a $4 billion contract to build five semisubmersible drilling rigs for Brazilian oil and gas company Sete Brasil Participacoes SA. For offshore drilling projects over several hundred feet deep, the semisubmersible rigs - which actually float - are the main type used by the oil drilling companies, so Keppel is clearly well positioned both for Brazil as well as the broader global trend towards offshore oil exploration.

Finally, in addition to the drilling rig manufacturers, one natural stock to look at to benefit from Brazil's increased oil production is the national oil company Petrobras (NYSE:PBR). Over the past five years, both sales and earnings at Petrobras have grown approximately 26% per cent annually, and given Brazil's huge production upside - of which Petrobras will be the natural beneficiary - at a trailing PE of around eight, Petrobras certainly seems reasonably enough priced.

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.