The logic behind the LT bullish case is as follows. OPEC nations needs on average $100 oil to balance budgets, the marginal cost of production for shale oil is about $70-75 and so it would be a matter of time before some of the high cost US supply starts declining. The crash appears to be supply related. US production of oil has been rapidly increasing over recent years hitting 30 year highs. I've noticed it all along and said to myself "It's a good thing they found all this oil for imagine what the price would be without it". Well there's a flip side to that coin because all this new found oil turned out to sow the seeds for its own demise as supply finally caught up with demand and exceeded it. So, the issue is how long will it take for the oil market to make the adjustment. Like I said, there's a lot of people hopeful that it won't be long but recall what happened with natural gas a few years ago when the shale boom resulted in a supply gut. The bust that followed was painful and prolonged and gas traded a unfathomable low prices for a long time, and although it finally bottomed in 2012, it still remains historically low . Then there's the bust in gold and uranium in recent years as well which were multi-year events not mutli-month ones and that's the way it usually it with commodities. Projects takes years to come online and many can't simply be turned off like a light switch and so oversupply conditions can last for a long time With oil however there's the unique dynamic of OPEC which other commodity markets don't have. OPEC seems to have the ability to turn off the taps quickly and are playing a game of chicken with US producers. But will they cut or can they cut and when? At what price?
In the midst of the oil crash I noticed some complacency. On a whole, oil companies have not announced material reductions in spending plans during 3rd quarter reports unlike what happened in q3 2012 when oil prices had declined in the summer that year. Perhaps they just need a bit more time and spending cuts will be announced in the near future or during q4. I can't see how there won't be material spending cuts with a 40% drop in oil as well as a huge wave of analyst cuts to earnings. Much of that could already be factored in to the stocks prices. I read an article about how the CEO of Continental Resources Harold Hamm lifted hedges as oil slid towards $80 in early November as he's so confident that a rebound is immanent. That kind of bravery is not what you want to see when looking for a bottom. However, after this latest plunge to sub $70, we're not seeing complacency anymore and more people are starting to believe that these "low" prices are going to be longer lasting. Where are all the peak oil guys now? BNN and other financial media are featuring segments that discuss which sectors and stocks will be beneficiaries of low oil prices. That's nice but you guys are $40 late.
In Canada, the plunge in oil is a double threat. The obvious one is the damage that will be done to oil producers especially the higher cost oil sands projects but the other, less obvious threat is with the nascent LNG industry. There's been a lot of hype and high hopes about it in recent years. The pricing of LNG contracts are oil linked and so they too have crashed along with the oil price. Right now with the spot price of LNG in Asia is about $10.50/mcf which makes LNG in Canada uneconomic. From what I've read most projects need to lock in LNG prices of $14-15/mcf to justify the risk of spending billions of dollars and so I was very much expecting last week's news that Petrnonas is delaying their final investment decision regarding LNG in Canada . They cited high costs as the reason but the true culprit IMO is low oil prices for not only does it make LNG pricing less attractive but it also squeezes their existing cash flows making them less able and willing to take risks with multi-year capital intensive projects like LNG.
If this downdraft in oil is simply a major correction similar to the summer of 2012 then the energy sector is a very attractive sector to invest in right now. If though, we have entered cyclical bear market in oil then it's going to be bad place to be in for the next 2-3 years at least unless you take a trading approach and play the swings. While we can certainty see an oversold bounce soon, I really don't have a good feel for oil here longer term at this point. There's mixed signals but there have been indeed signs of excess which typically accompany the peak of a boom. One of the hot spots of the shale oil boom was in the state of North Dakota where incomes are booming and unemployment is at lowest rate in the US at sub 3%. I read about how there was an advertisement for pizza delivery jobs offering a $56K/yr + benefits and how one Walmart was offering $17.40+/hr for entry level employees. It gives me dot-com mania nostalgia when I see things like that and makes me think that this has to end badly. This is obviously just a couple of examples and it would require more DD to get a more complete understanding as to just how much excess there really is in the US shale boom. I've been looking at a few natural gas weighted plays because I think that ultimately, gas prices will go higher with or without LNG but I don't want to have to deal with any oil related headwinds that could weigh on it for several months, plus the markets overall are overbought and I don't want to get caught in any general market weakness. I'm frustrated at this point.
If this downdraft in oil is simply a major correction similar to the summer of 2012 then the energy sector is a very attractive sector to invest in right now. If though, we have entered cyclical bear market in oil then it's going to be bad place to be in for the next 2-3 years at least unless you take a trading approach and play the swings. While we can certainty see an oversold bounce soon, I really don't have a good feel for oil here longer term at this point. There's mixed signals but there have been indeed signs of excess which typically accompany the peak of a boom. One of the hot spots of the shale oil boom was in the state of North Dakota where incomes are booming and unemployment is at lowest rate in the US at sub 3%. I read about how there was an advertisement for pizza delivery jobs offering a $56K/yr + benefits and how one Walmart was offering $17.40+/hr for entry level employees. It gives me dot-com mania nostalgia when I see things like that and makes me think that this has to end badly. This is obviously just a couple of examples and it would require more DD to get a more complete understanding as to just how much excess there really is in the US shale boom. I've been looking at a few natural gas weighted plays because I think that ultimately, gas prices will go higher with or without LNG but I don't want to have to deal with any oil related headwinds that could weigh on it for several months, plus the markets overall are overbought and I don't want to get caught in any general market weakness. I'm frustrated at this point.
