Home/Blog/Trading Ideas/With drills at rest, oil prices spurt higher

With drills at rest, oil prices spurt higher

3 May 2016 in Trading Ideas

Key Takeaways

  • Energy stocks have climbed over the past three months due to declining global production and a lower US dollar. If expectations for higher demand remain intact, the increasing lack of supply should help prices rise further.
  • Oil prices rose 20 percent last month, its biggest gain in seven years.
  • A slowdown in crude production could support higher prices if global demand continues to hold up.
  • Motifs mentioned: Black Gold
  • Stocks mentioned: Exxon Mobil Corporation (NYSE:XOM)

While consumers might be paying a little more at the pump — the price of gasoline is up 60 cents a gallon in the past three months — the surge in oil prices has also gone a long way to help lift the spirit of investors.1

And, if it’s true that we’ve seen a bottom in near-term crude prices, the bullishness may become even more infectious.

The S&P 500 has gained 6.5 percent in the last three months, a time when oil prices have surged 75 percent.

Last month was no slouch either as oil finished its best month in seven years last week, rising 20 percent in April as it closes in on $50 a barrel.

Unsurprisingly, the rally has been a boon for the stocks of publicly traded energy companies. The Black Gold motif has gained 8.3 percent in the last month compared to the 0.3 percent has increase of the S&P 500. Over the past 12 months, the motif has lost 18.4 percent; the S&P 500 is down 2.5 percent.

Exxon ekes out gains despite shrinking profits

The positive vibe toward energy-producing stocks was on display last week when Exxon Mobil Corporation (NYSE:XOM) – whose shares comprise an 18.4 percent weighting in the Black Gold motif – saw its stock rise a smidge even though the company said its latest quarterly profits shrank 63 percent to their lowest level since 1999.

The powerful performance has been driven in part by declining U.S. oil production and a weakening dollar, which makes oil and other dollar-priced commodities cheaper for holders of other currencies.2

This has helped offset some of the industry’s bad news. “The ongoing oversupply and record-high U.S. crude oil stocks [supplies] are being ignored,” Carsten Fritsch, an analyst at Commerzbank, told the FT.

Oil supply to intersect with demand?

Many analysts and forecasting groups expect the oil market to rebalance later this year as supply and demand align. But outages in cash-strapped producer countries such as Venezuela will help support prices.3

In the U.S., oil production fell 0.6 percent in February, the most recently reported month, marking a fifth straight monthly decline, according to the Energy Information Administration. The number of rigs drilling for oil in the U.S. fell by 11 last week to 332 – that’s down 79 percent from a peak in October 2014.4

Production also is expected to fall this year in some other parts of the world, including Mexico, Norway and Kazakhstan, due to a lack of new investment. Iraq is behind in payments to international oil companies, threatening future production in those countries.5

The low-production dynamic is no small part of the recent statement by International Energy Administration chief Faith Birol that oil prices may have bottomed out, thanks in part to a decline in non-OPEC production amounting to more than 700,000 barrels per day this year, and production outages such as in Nigeria and Kuwait.6

Asked by Reuters if oil prices had bottomed out, Birol said, “It may well be the case, but it will depend on how the global economy looks like. In a normal economic environment, we will see the price direction is rather upwards than downwards.”

Forgetting for a moment that “normal” economic environments are kind to most asset classes over the longer term, Birol did say that with global oil demand expected to grow by 1.2 million barrels per day this year this year, the draw in global oil stockpiles will start soon, which will help push up oil prices.

“I think the trend is that there’s a decline of stocks worldwide and the stock building rate is slowing down considerably, and we expect towards the end of this year stock draw will start to kick in,” he said.

Birol said he hopes to see a rebound in upstream oil investments next year, following a 40 percent drop in investments over the past two years. He also said a third year of investment decline would be problematic for oil markets as it could cause oil price spikes and increase volatility, which would not be good for consumers — unless, of course, those consumers are also invested in oil stocks.

  1. Price chart, gasbuddy.com
  2. Anjli Raval, “Oil on track for biggest monthly gain in seven years,” ft.com, April 29, 2016.
  3. ibid
  4. Nicole Friedman and Erin Ailworth, “Oil Patch Relieved by Price Rebound,” wsj.com, April 29, 2016.
  5. ibid
  6. Osamu Tsukimori, “IEA chief says oil price bottoming depends on global growth, reuters.com, May 1, 2016, http://www.reuters.com/article/us-energy-g7-iea-idUSKCN0XS0U4.

Investments in commodity-related products, such as precious metals, agricultural products, and oil may be subject to greater volatility and liquidity risks than investments in traditional securities. Commodity-related products can be significantly impacted by underlying commodity prices, world events, government regulations, and economic conditions, which can dramatically affect the value of an investment.

Investing in securities involves risks, you should be aware of prior to making an investment decision, including the possible loss of principal. An investment in individual stocks, or a collection of stocks focused on a particular theme or idea, such as a motif, may be subject to increased risk of price fluctuation over more diversified holdings due to adverse developments which can affect a particular industry or sector. Investments in ETFs can include those with a narrow or targeted investment strategy and can be subject to similar sector risks than more broadly diversified investments. Motif makes no representation regarding the suitability of a particular investment or investment strategy. You are responsible for all investment decisions you make including understanding the risks involved with your investment strategy.