Every single morning for the past 10 years, I’ve written down four prices in my notebook: the S&P/ASX200 closing price, the Dow Jones closing price, the gold spot price, and the AUD/USD cross rate.
Given my affinity for technology and gadgets, it’s a bit old school that I write this data down in a notebook — one that I carry everywhere, I might add.
I find that this data sets the research direction for the day.
However, it wasn’t until August 2014 that I added a fifth price to that notebook. One I now also follow every morning — the Brent Crude spot price.
It was during this time that the oil price started falling significantly, week by week.
Around June 2014, oil began its incredible descent. From June to August, the price fell from a peak of US$115, to US$101 a barrel. What I — and most other analysts at the time — didn’t know was that the biggest falls were yet to come.
From August 2014, I started jotting down the daily movements; the price of crude slid to US$58 by the end of that year. 12 months later crude finished 2015 at US$36 a barrel.
Yet, we still didn’t know that a 12-year low was coming our way. In January this year, oil dropped below US$29 a barrel.
You can see this 18-month fall in the chart below.
[Click to enlarge]
Jim Rickards, economist, author and strategist for our own Strategic Intelligence service, was one of the few people to highlight the dire effects of plummeting oil prices on oil related debt.
At the end of 2014, Jim started pointing out that the massive oil related debts — around US$5 trillion — would unravel as oil plunged lower. He discussed this in detail in his book The Big Drop.
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The debt implosion hasn’t occurred yet. Earlier this year, it looked as if it might. That was when US banks started ‘bracing’ for the oil related debt problems.
At the time, Wells Fargo & Co [NYSE:WFC] said they lost a total of US$118 million in oil debt write-offs for the final quarter of 2015. Because of this, they set aside US$1.2 billion to cover energy related losses in their portfolio. This, by the way, only covers 7% of their US$17 billion in outstanding oil and gas loans.
Citigroup claimed to have lost US$75 million in the same quarter, setting aside US$200 million to cover bad oil debts.
In the five months since it looked like oil was going to cripple the world, the price is back up to US$49 a barrel.
Three weeks ago, Citigroup came out saying that oil prices have turned a corner.
Oddly, they’re pinning the oil price rally on two short-lived supply issues in May. The price of oil has only moved up US$3 per barrel for May. When, in reality, the oil price rally began back at the start of March this year.
The recent May wildfires in Canada and militant attacks on oil equipment in Nigeria are, in Citi’s view, restoring ‘balance’ to the oil supply. So much so that Citigroup now believes oil will finish 2016 around US$46 per barrel. Not to be left out, JP Morgan says that US$50 per barrel is feasible because of the ‘supply disruption’.
But I think they might be celebrating a little early.
The Canadian wildfires occurred at the start of May. While very little damage occurred, the oilers in Northern Alberta were shut down for two weeks. Four weeks later, the refineries are up and running again. While they aren’t running to capacity yet, it should be only another month before the refineries are back at full speed.
Canada supplies about 3.2 million barrels of oil per day to the US market. The wildfires affected about one million barrels per day. In other words, roughly one third of the oil supply was affected.
A supply issue in Nigeria, on the other hand, isn’t new information for the oil market. The politically divided country regularly experiences supply issues because of militant attacks. During May, about 500,000 barrels of oil didn’t reach the global market because of this. However, based on previous attacks in Nigeria, this level of disruption is normal.
If you put those figures together, Citigroup are telling you the oil problems are over, based on 1.5 million barrels per day. In just two weeks.
I think the bank is popping the champagne corks too soon.
If anything, the supply disruptions to the oil market are providing nothing more than a temporary balance. I don’t believe that we should be celebrating — or lamenting — the return of high oil prices just yet.
Jim and I haven’t recommended any oil related stocks for Strategic Intelligence subscribers yet. However, we are both on the hunt for the right oilier that will survive the oil debt crisis.
Don’t get me wrong, it’s tempting to jump into what look like cheap oil companies.
Take ConocoPhillips [NYSE:COP] for example. Since March, this stock has traded between US$40–48 per share. And this is with the supposed oil price rally. However the company is less than half of its US$86 share price peak in the middle of 2014.
The same applies to local oil stocks. Santos Ltd [ASX:STO] has traded between $3.86–4.80 in the same time. The share price is almost a third of its $15 high in August 2014.
While these companies may look cheap compared to their highs, it doesn’t mean they are the right sort of oiler’s to buy right now.
For two reasons: oil companies are experiencing high volatility, and the oil related debt problem is yet to be fully understood.
The problem is that the timing isn’t right yet.
Once either trend becomes clearer, Jim and I will include some oil stocks for Strategic Intelligence subscribers.
Until then, sit out of the oil stocks.
Editor, Strategic Intelligence
PS: This article was originally published in Money Morning.