Please find below our Investment Market Update as at 21st April 2020.
Blue Sky Investment Market Update
As is if we haven’t had enough excitement, the price of US oil now drops below zero!
Last night, for the first ever time in its history, the price of oil in the US fell dramatically to below $0. Yes, that’s correct, it was supposedly worth nothing!
There were technical reasons behind this movement but essentially, what has caused the downturn, is weak demand and oversupply. So much so that there are huge concerns about the ability to store this surplus oil.
Producers have been paying buyers to take oil off their hands because of limited storage capacity. Apparently, according to the FT, producers at one point were paying more than $40 a barrel to get rid of their oil. Events have unfolded dramatically as the price of WTI crude on Friday of last week was $18.27. Some swing in price!
It was a bit different in January!
It wasn’t long ago, that the price of oil was over $60 a barrel. You may remember the Iranian Commander being killed early in January, at which point there were real fears over the price surging up to $80 barrel. Somewhat of a contrast to oil being worth minus $40 yesterday.
Technical reasons compounded the price fall
Today, Tuesday 21st April, is the final day of trading of WTI future contracts for delivery in May. Traders have been keen to offload holdings to avoid having to take delivery of the oil.
Overnight in Asia, contracts for delivery in June looked healthier, as the market was encouraged by the prospect of lockdowns easing around the world.
A political game
Earlier in the month, OPEC members agreed to cut production by 10%, the largest reduction in history but it was too little too late.
In March, Saudi Arabia and Russia, the two big hitters in OPEC, couldn’t reach an agreement about cutting production and this created massive uncertainty around the oil price. Saudi Arabia decided to boost production instead. Unfortunately, we had a perfect storm as demand collapsed because the global pandemic took hold.
What does the immediate future hold for the price of oil?
It all very much depends upon how quickly there is a transition around the world from lockdown. Prices are however expected to remain subdued whilst demand is weak. Even if the appetite for more oil picks up, there will still be a huge amount of surplus oil in the system. Any signs of positivity around the Coronavirus should see the oil price creep up but, of course, we could find that we could have a repeat of yesterday, when futures reach their maturity in June as storage capacity deteriorates.
Brent Crude, which is more transportable by sea and has less storage issues, is currently priced at $23.30.
What are the implications?
The oil industry
It is generally expected that most companies will keep their operations running, albeit with a lower production, and hope that they will claw back profitability over time.
Of course, there will be consequences and it is highly likely that less money will be committed for exploration and new innovations. Capital spending will be severely curtailed.
It is estimated, according to the ‘Offshore’ online publication that as much as 30 million barrels per day has been pumped into storage worldwide, in the past 2 or 3 months.
The consumer
We’ll see prices at the pumps drift downwards, but we won’t see anything like the fall in the underlying oil price. I can’t see petrol stations paying us to fill up our vehicles, can you? Besides, much of what we pay at the pumps goes in tax (circa 60%).
It is ‘a chicken and egg’ situation. We are not able to benefit from the lower prices at the pumps and because of the lack of demand, prices fall further. Airlines will of course benefit but likewise, this isn’t much help as consumer demand is so low.
The Stock Markets
This is an interesting one because, for most developed countries and much of Asia who are net importers of oil, the falling oil price should be good news. However, the lowest oil price in history does not do too much for confidence!
Overnight and today, most stock markets have fallen because of a ‘hit’ to energy shares but also because of fears over how long it will take for countries to transition into some type of sustained recovery from lockdowns.
The nature of anyone’s investments will determine the impact the falling oil price has on their portfolio. Investing in an index like the FTSE 100 embraces shares like BP & Royal Dutch Shell. Both are down by circa 4.5% today but, some shares like Sainsbury’s are up +4.14% as I write. Investing in an index means you get the good, bad and the downright ugly.
Investing in a more actively managed arrangement doesn’t guarantee that you won’t have such a variance but there is no doubt that assets can be more focused towards areas or sectors which are likely to be more resilient in market conditions, like we have now. Blue Sky clients will be pleased to learn that we have very little exposure to oil stocks.
Summary
We don’t know what is likely to happen in the short-term but eventually, the oil price is expected to pick up but how quickly depends upon how soon this virus can be controlled. The same can be said of the broader market, but the good news is that we have already seen a rise of circa 29% in the Dow Jones index and 16.3% in the FTSE 100 since 23rd March 2020.
Strange times, strange dynamics but, nevertheless, opportunities for those with a longer-term horizon.
Best Wishes
Gary and the Investment Team
RISK WARNING
Please Note: This communication should not be read as giving specific advice regarding your personal circumstances. This would only be given following detailed assessment of your individual needs. The value of investments may fall as well as rise; you may get back less than invested. Past performance is not necessarily a guide to future returns.
