Is Crude Oil About to Hit Aussie Stocks?

Crude oil has surprised many this year.

Brent crude, the international benchmark, is trading higher at US$49.77 per barrel. It’s up 79% from the low of US$27.83 per barrel on 20 January.

West Texas Intermediate (WTI), also known as US crude, is trading higher at US$48.78 per barrel. It’s up 87% from the low of US$26.05 per barrel on 2 February.

Indeed, it got the pump. So, is it time for the dump?

Well, it comes down to sentiment.

I’ll explain…

Does crude look bullish to you?

Sentiment changed in early February, when OPEC said it would ‘potentially’ freeze oil production at January levels. As the rumours grew louder, crude jumped higher. Unfortunately, rumours don’t last forever. According to Bloomberg last week,

OPEC will stick to its policy of unfettered production after members rejected a proposal to adopt a new output ceiling, but ministers were united in their optimism that global oil markets are improving.

Someone has to say it: There was never going to be a production freeze. From the start, it was always about ‘talking up’ the crude oil price. For this reason, we should pat the oil ministers on the back — they did a great job. That said, we can’t give them all the credit.

Canadian wildfires wiped out 25% of the nation’s production, and militant attacks and pipeline outages cut Nigerian volumes by roughly 30% this year. The combination put a rocket under crude.

Still, while this went on, supply kept rising to staggering levels. Yet, with constant inventory drawdown reports, you probably wouldn’t know it.

See, thanks to higher oil prices, it’s become cheaper to store crude offshore. A senior European oil trader told Reuters, ‘I’ve been coming to Singapore once a year for the last 15 years, and flying in I have never seen the waters so full of idle tankers.’ For the record, this extra storage doesn’t show up in the onshore reports.

Adam Longson, head of commodity research at Morgan Stanley, is concerned. He told investors last week:

Southeast Asia floating storage is getting worse, with offshore volumes reaching the highest level in at least 5 years and continuing to rise [week on week]. The growing glut suggests oil markets are not as healthy as sentiment suggests. Similar situations are being repeated in the Gulf of Mexico and North Sea, but to a lesser degree, and product markets show a number of similar unhealthy trends.

Yet, despite this activity, OPEC ministers believe ‘global oil markets are improving.’ Unfortunately, back in the real world, the crude oil supply glut isn’t over. In fact, it’s gotten worse.

Investment banks are paid to be bullish — we aren’t

It doesn’t matter…

Following the recent bounce, investment banks have had a change in heart and are becoming bullish on crude. According to Bloomberg:

A decline in production driven by unexpected supply disruptions, as well as sustained demand, have resulted in a “sudden halt” to the output surplus, Goldman analysts Damien Courvalin and Jeffrey Currie wrote in a report. Other banks such as Morgan Stanley, Barclays Plc and Bank of America Corp. also noted that supply losses are leading markets to rebalance.

“The physical rebalancing of the oil market has finally started,” Goldman said. The bank raised its U.S. crude price forecast for the second half of 2016 to $50 a barrel from $45 estimated in March. It cut its forecast for the first quarter of 2017 to $45 from $55, but sees oil at $60 by the end of that year. The bank expects global demand to grow by 1.4 million barrels a day in 2016, versus 1.2 million predicted previously.

I wouldn’t listen to Goldman, or any of these brokers…

On 1 March, when oil was trading around US$35.97 per barrel, I said it looked ready to bounce in Money Morning. At the time, the majority of investment bankers and brokers were calling for a US$20 per barrel oil price. It’s not surprising. Remember, brokers are trend followers and typically sit on the fence. It’s why most of their forecasts are similar, and often wrong.

Now, I’m not saying that I get everything right. No one does. But I’ll pit my forecasts against the major investment banks, commercial banks and brokers any day.

When crude was trading at US$78 per barrel in November 2014, the banks were bullish. I said it would fall to US$58 per barrel. At the same time Mark Pervan, Head of ANZ Research, told the ABC: ‘I think oil prices around these levels are about, I suppose, close to the bottom.

In August 2015, Reuters wrote that ‘Citi lowered its base case Brent price forecasts to $54 per barrel for 2015 and $53 in 2016 from $58 and $63, respectively. Citi said it assigns a probability of 55 percent to its base case forecasts.’ It was a convenient and ‘safe’ forecast. At the time, crude had rallied to around US$60 per barrel. I said it would crash to US$30 per barrel by the end of the year. My forecast was off…by a couple of weeks.

In my view, contrary to mainstream opinion, crude may still see a new low. If I am right…again, it won’t bode well for Aussie stocks. Especially if crude has already peaked.

Are Aussie stocks due for a pullback?

Callum Newman, Editor of Cycles, Trends and Forecasts, discussed the coming dip in Aussie stocks in Friday’s Money Morning. According to Callum,

That’s because selling pressure comes in from investors via tax loss selling as they write off their dud investments. Watch out if you have any weak stocks in your portfolio. They’re unlikely to turn around any time soon.

I agree with Callum. However, I don’t think tax selling explains the full story. If crude oil pulls back in the weeks ahead, energy stocks should follow. This would put pressure on the Aussie stock market. Callum elaborated:

And yet for all the worries we keep hearing, US stocks are trading a whisker under their all-time highs.

They’re doing so even though investors appear to be pulling money out of stocks around the world. The Financial Times reported this week that US$100 billion has been withdrawn from equity funds worldwide over the past year.

It doesn’t take much to speculate that investors want to get exposure to the capital growth and yield that shares offer, but are worried about losing what they have.

This week the US central bank the Fed said it’s now seeing rising wages right across the US.

Granted, the Fed is almost always behind the ball on these things. As a consequence, interest rates have been kept too low for too long.

Indeed, interest rates have been low for too long. The US Fed knows this and, even considering the dismal jobs number on Friday, will probably raise rates in the coming months.

If rates go up, the US dollar will rise and crude — and oil stocks — may feel some heat. For this reason, caution is advised going forward. The ASX 200 may not be as safe as it appears.

On this note, Resource Speculator readers just made a 65.5% gain. I recommended selling one of the best oil stocks on the ASX. When the time is right, I’ll recommend buying that stock — and many more — again. This includes a stock from which readers profited by 242% earlier in the year.

If you want to know more on this story, click here.


Jason Stevenson,
Resources Analyst

Money Morning is Australia’s most outspoken financial news service. Your Money Morning editorial team are not afraid to tell it like it is. From calling out politicians to taking on the housing industry, our aim is to cut through the hype and BS to help you make sense of the stories that make a difference to your wealth. Whether you agree with us or not, you’ll find our common-sense, thought provoking arguments well worth a read.

Money Morning Australia is published by Port Phillip Publishing, an independent financial publisher based in Melbourne, Australia. As an Australian financial services license holder we are subject to the regulations and laws of Corporations Act and Financial Services Act.

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