Brent crude oil is trading at US$28.94 per barrel — a fresh 12 year low.
It fell by 45.7% last year, the most out of any commodity. From its high of US$127.07 per barrel, Brent’s crashed by 77% in the past 18 months.
Australia’s largest players —Woodside Petroleum [ASX:WPL], Santos Ltd [ASX:STO] and Oil Search Ltd [ASX:OSH] — have lost billions for shareholders. Expect more carnage from these players today.
Mid-cap oilers have also been creamed.
Tap Oil [ASX:TAP] is down by nearly 50% in the last month. With similar losses, Horizon Oil [ASX:HZN] has struggled to impress shareholders in recent months. Senex Energy [ASX:SXY] has been an absolute disaster. It’s down roughly 50% in past two months. I could go on.
When will the nightmare end?
We’ll answer that today…
Who could have possibly seen this coming?
First, you should know my track record on forecasting crude. I told Resource Speculator readers on 5 March 2015:
‘It’s important to understand why crude prices will fall to US$42 per barrel shortly and hit US$30 per barrel by year’s end.’
US$42 per barrel was hit on 1 April, less than one month after the update. US$30 per barrel was hit earlier this month.
These targets weren’t plucked out of thin air. They involved rigorous fundamental and technical analysis. In fact, what I told Resource Speculator readers on 5 March 2015 still stands today. I said,
‘The fact is that supply far outweighs demand.
‘On the demand side, economies are overleveraged to the point that borrowing more debt is not creating real economic growth. When economies were growing, they needed more oil to feed their economic engines. But growth in the major economies is stagnant. Furthermore, rising taxes and regulation are hitting the demand side of the equation hard.
‘Rather than seeing businesses expand and investing in capital, we are seeing them cut costs, slash jobs, and buy back their own shares. This comes at a time when consumers are demanding fewer discretionary goods because their real incomes have fallen dramatically. This ‘deflationary’ phase is crippling the need for crude oil.
‘On the supply side we’re seeing significantly more oil brought to market.
‘Two main players influence the supply side — OPEC and the US.
‘Saudi Arabia, the largest OPEC producer, has increased production to 9.5 million barrels of oil per day; the highest level since 2013. Iraq, an OPEC member, has increased its oil production from 2.5 million barrels to three million barrels per day. Furthermore, OPEC continues to slash its prices to Asian customers.
‘At the same time, US oil producers are now pumping roughly 9.5 million barrels per day. US crude inventories have climbed to the highest levels in over 80 years.’
Crude’s demand and supply story has been atrocious. Unfortunately, it will get worse before it gets better.
Yet, while you could see this story brewing a mile away, investors lost tens of billions from their savings. Perhaps, it’s because the major investment banks kept saying buy?
Investment banks wrong again
On May 27 2015, FNArena summarised the investment bank forecasts of the major oilers. This is shown on the table below.
Pay attention to the first column, titled B/H/S. It stands for buy, hold and sell. Clearly, most investment banks were bullish on the major oilers. At the time, Citi forecasted Brent to hit US$63 per barrel by the end of 2015 — double my forecast of US$30 per barrel.
To be fair, while Citi’s forecast was proven outlandish, it wasn’t alone. Remember, investment banks are like seagulls. They never stray too far from the pack. So, to remain ‘mainstream’, their forecasts for crude were similar.
Not surprisingly, the bullish fever has died. Now most investment banks are bearish on crude oil.
In recent weeks, Goldman Sachs, Citigroup and Morgan Stanley said US$20 per barrel is likely. According to Bloomberg, Citi said ‘U.S. oil prices may fall into the $20s if tanks used to store crude start to fill up before producers sufficiently curb output.’
Following suit, Morgan Stanley told investors in a research note:
‘In an oversupplied market, there is no intrinsic value for crude oil. The only guide posts are that the ceiling is set by producer hedging while the floor is set by investor and consumer appetite to buy. As a result, non-fundamental factors, such as the [US Dollar], are arguably more important price drivers.’
I’m wondering what ‘no intrinsic value’ means. Does it imply that crash could below US$20 per barrel?
According to the Telegraph, this may be the case. Standard Chartered believes US$10 per barrel is possible!
If you ask me, these major banks will likely be wrong again.
A bounce in crude oil?
For now, Jeffery Gandlach offers the best wisdom. Gandlach is the founder of US$52.3 billion DoubleLine, the world’s largest bond fund. In a letter to shareholders, Gandlach said, ‘You don’t have to try to call a direction right now. If it’s going to move, it’s going to move big and we’re going to play a go-with-it strategy.’
Gandlach is right. The trend your friend. So the smart approach is to wait and see.
But no one likes a fence sitter. So I updated Resource Speculator readers with my thoughts last week. To summarise the lengthy analysis, I said:
‘Expect lower oil prices to persist in the short term. This should provide you with a good buying opportunity. On this story, crude’s traded below US$34 per barrel. This was my updated forecast when crude was trading above US$58 per barrel.
‘Looking forward, on a technical level, I’d be surprised if crude sank lower than US$25 per barrel.’
Remember, crude has fallen by 77% in the past 18 months. So, with most of damage done, we’re likely to see a bounce in the crude oil price this week.
On that note, check out the chart below showing the Brent crude oil price. You can see crude’s strong downtrend since November. This is shown by the blue channel lines.
Source: TradingView; Resource Speculator
At the moment, crude’s trickling along the lower blue support line. This indicates punters are extremely bearish on oil. But typically when the market’s near maximum pessimism, you get a good bounce.
I’m expecting a 15–20% bounce in the near-term. In this case, crude should retest the US$35–36 per barrel level shown by the upper blue trend line.
If you want to have a punt on the oilers, there’s a good quick trade on offer. But I’m not bullish on crude…yet.
Remember, the supply and demand story hasn’t changed. It’s still atrocious. So I expect the carnage to persist in the short term. Nonetheless, I’d be surprised if crude trades below US$25 per barrel. So, I’m recommending Resource Speculator readers start buying the best oilers now.
Remember, with rising geopolitical conflict around the world, the crude bear market won’t last forever. Oil should rally hard in the years ahead, especially when more conflict breaks out in the Middle East as seems inevitable. If you want to know more details on this story, check out Resource Speculator by clicking here.
Resources Analyst, Resource Speculator