Due to a combination of demand and supply factors, prices crashed below USD30 per barrel in 2016 and is still about 45% below its 2015 peak.
What caused the oil rout, and what opportunities are there in this low oil price environment?
We’ve gathered the key facts that every investor ought to know:
Want to find out more? Watch our video which explains the oil rout in detail and read our research reports for coverage of each sector and how they are impacted by oil prices.
An investment can often be effected by unforeseen circumstances. No matter whether it is a financial crash like in 2008 or a natural disaster like the earthquake in Japan – the market is never entirely save from unexpected disturbances. Therefore, expecting the unexpected will also be a credo for 2015. There is more to be considered. The global market seems surprisingly stable and might be able to excel further in 2015. But there are still a few things to keep in mind when putting your money in the market.
The oil price has fallen significantly within the last three months and even went to $53 US dollar on the last trading day of 2014. Although the supply has been reduced in order to stop the landslide, it doesn’t necessarily mean a halt for now. The oil price will most likely continue to affect the markets for a substantial part of the year. Sudden unforeseen events, like a military conflict or further overproduction, could trigger the oil price to go either way. This could therefore heavily disrupt an oil-dependent economy, such as Russia that is already unstable. When investing in 2015, one should consider to what extent the invested industry is subject to the oil price. If an investment is co-dependent on the rise and fall of the black gold, a seemingly stable share can fall rapidly just like the oil price and the Ruble did. Therefore, it is advisable to check the loose ends of your investments in order to see where they might get caught up in 2015.
The Federal Reserve in the US is said to raise the interest rate again later this year. Why is this interesting for anyone outside the US? At first glance it isn’t. But it is nonetheless a factor that one should keep in mind when investing internationally. Firstly, the raising of the FED interest rate can have a significant impact on the other markets in Asia and Europe. The markets are especially unstable in the days before the Federal Reserve is going to announce the raise. There is a good chance that shares will start to wager heavily for a short while. This might be a good chance to jump on some low prices before they will regulate themselves after the excitement around the interest rate has quietened down.
It might seem very obvious, but IT sector should not be left out of sight. Several shares are continuing to grow beyond everyone’s expectations. Certain stocks have been growing for more than five years straight and there isn’t an end in sight. That means not only that an investment in the IT and tech sector is potentially very lucrative and brings favourable returns, but is also a possible long-term investment that is crisis-safe. Tech shares have gained up to 20% and more in 2014. Charlie Morris from the HSBC Global Asset Management said that the tech sector will literally go ‘nuts’ this year. Stocks like Facebook, Google and Apple seem a very obvious choice – this is for a very good reason though. Investors have made profitable returns in the last years and will do so in 2015 as well. There are however more tech stocks to watch out for. Furthermore, paradoxically some tech indices have fallen throughout the year. They are predicted to take up speed this year again, as the tech stocks are gaining too. Therefore, the low prices of the tech indices offer an interesting opportunity to get involved and make reasonable profits. Even though the indices aren’t bringing as much return as perhaps Facebook and Apple, they still can be very beneficial for investors.
There are, however, certain investments one should be careful with, but definitely watch out for. One of those is gold. The price for the shiny metal has fallen to $1131,24 US dollar an ounce in November, which was the lowest in four years. Part of the reason for the drop is the US dollar, as gold is priced in the American currency. As the US dollar has become very strong throughout 2014 and risen to a seven-year high, the gold price went down. Furthermore, the price had suffered due to the low inflation. The latter is used as a hedge to prevent rising prices. This however makes gold more expensive in other currencies. However, there are analysts that predict the gold price could rise up to $1500 US dollar an ounce in the next years. Depending on the inflation rate, some even expect a raise to $3000 US dollar in the next ten years. This could mean a high potential benefit for investors in the long-term. Even though the very near future of the gold price might be rather slow, it seems very unlikely to fall substantially further. The demand for gold in China, India and other Asian markets is already growing and will continue in 2015. Jeffrey Nichols from Rosland Capital predicts a move of investments away from stocks and bonds back to gold. It seems that the signs are all set golden.
When investing within Europe, one should keep certain dangers in mind. The most prominent for numerous analysts is the political situation. If the UK was to vote on exiting the EU, the financial sector could be shaken up significantly. The European market has been suffering from a lack of trust for several years now. The rebuilding of faith in the industry has started, but remains slow. One should take the political instability in consideration when investing within the EU.
Although there isn’t much trust from the public and the politicians, the global financial market has recovered. Indicators such as the S&P 500 have gained over 12% throughout the year. Many analysts even claim the market is doing too well. Hence, there could be an instant eruption. Therefore, depending on your financial goal, it might be wise to only take the risks that are really necessary. The risk one takes with its investment should be matched by the financial aim of the investor. If risks are being taken then it is advisable to invest within one’s comfort zone. Don’t invest in what you don’t know.
The black gold is without question, still one of the most valuable goods in the trading market. Many countries are dependent on the consumption of it, while other economies are entirely based on the selling of oil. When the oil price suddenly falls heavily, some people are getting extremely worried and others buy frenetically. In the last weeks and months, the oil price has been experiencing the biggest plunge since the mid-year drop in 2008. The price has currently reached almost half of what it still was June 2014.
Traders and consumers are not only buying, but also asking themselves how this drop came about and how it might affect the economy. Oil was already to run out in the 1970s and only expected to excel in price, if anything at all. The sudden fall of the oil price is not only unexpected, but also creates a certain anxiety – is it the first sign of a collapsing economy? Looking more closely at the events, one can learn a few things.
Falling demand
Firstly, the world is less dependent on American and Middle-Eastern oil than one might have thought. In September the U.S. Energy Information Administration has reported the highest monthly production rate in 28 years. On the other hand, Europe and China are buying less oil, as the demands shifts to gas and renewable resources. The supply has increased and the demand decreased, hence the price fell.
When the price for oil was high, economists blamed the American government for slowing down the economy as subsequent high gasoline prices damaged shipping, trade and travel. Now that the price is low, the same voices expressed accusations towards the same government for bringing a decline to the oil industry. Areas in Texas and North Dakota, in which the oil industry is a heavyweight, fear job cuts, as the production of oil might need to be reduced to stabilise the oil price.
If both high and low oil prices are bad for the economy, then when is it good for the economy? The truth is that the oil price alone is not responsible neither for a flourishing nor for a stagnating American or international economy. Neither is the president nor the government directly responsible for the fluctuation of the oil price. Morgan Stanley predicts that the price can even further drop in the beginning of the New Year. Fact is though, no matter whether high or low oil price, there will be benefiters either way. The world economy surely is related to the oil price. However, some critics wrongly believe that the falling and rising of the oil price regulates the international economy – it is the other way around.
Government regulation
Related to the problem of the falling and rising of the oil price is the issue of government regulations. The question is whether it is necessary and beneficial to regulate the drilling for oil and the oil market itself. Once again, there are critics arguing both ways. Furthermore, there have been regulations in place both when the oil price was rising and falling as it is now. Every time again the market has regulated itself. ‘How come?’, one might ask. It is due to one of the oldest economic principles – demand and supply.
Oil is a good that can be traded. However, it is often treated just like a currency, which it obviously isn’t. Regulations surely can have an effect on a good being traded, but in the case of oil, the market will regulate itself. The current decrease of the oil price is such a self-regulation. Softer or stronger restrictions on oil drillings would have had only a small impact – considering the entirety of the world market and trade movements. If the government hadn’t restricted drillings, the price would have dropped perhaps faster, but it couldn’t have been prevented.
The black gold isn’t any weapon or tool that can be used to stir the economy into a particular direction. Oil, no matter whether coming from the US or the Middle East, is subject to the market. If the supply is surpassing the demand, the price will simply go down – period. The only question remaining is, whether critics in awe of economic regulations will understand it.
The oil price will mainly remain a victim to demand and supply. However, there is another lesson to be learned. If China and Europe keep cutting down on their need for oil, the self-regulation of the oil market might result in a downward spiral in the long run. If the demand for oil will continuously decrease, the production and drilling will eventually do the same. The industry tends not to react to short-term movements, such as the current one. However, there is a good chance that the demand will not pick up, which will result in cutbacks.
Reduction in oil drilling
What does that does? The American economy is not entirely based on the production of oil. However, it is one of the biggest industries in the country. Although the U.S. consumes plenty of oil by themselves, the cutback in international demand can have a significant effect on the industry. Therefore, it is relatively safe to consider a reduction in oil drilling in the long run. This is not only due to a lack of demand, but also because the benefit margin in the oil industry will become increasingly thinner than it already is, due to high and continuously increasing production cost. Not only are subsidies being given to renewable energies, but also the infrastructure of the oil industry will not survive another renewal.
There is, however, one counterexample, which is the arms industry in the United States. The oil industry in the U.S can be compared to the arms industry. The latter is a major player in the American economy, but for a substantial part kept alive due to the government’s own spending in arms. Therefore, plenty of jobs are being maintained because the United States is at war. Only if a similar scenario will occur within the oil industry, there will be a chance for the long-term security for the industry.
