What happened
Oil prices started this week with a bang. WTI, the primary U.S. oil price benchmark, had rallied more than 10% by 10:30 a.m. EDT on Monday, to around $32.50 a barrel, while Brent, the global oil price benchmark, jumped more than 7% to nearly $35 a barrel.
The surge in crude prices buoyed most oil stocks. Several rallied by double-digit percentages in early morning trading today, including Apache (APA 0.97%), Callon Petroleum (CPE), and Cenovus Energy (CVE 0.24%). Meanwhile, even oil giant ExxonMobil (XOM 0.23%) was in rally mode as its shares surged 5% by midmorning, adding about $10 billion to its market capitalization.
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So what
Oil prices in the U.S. rebounded to a two-month high on Monday. Fueling the rally was optimism that demand is beginning to improve as more states reopen their economies now that the COVID-19 pandemic has started waning. On top of that, oil supplies are falling fast because producers trimmed output to combat weaker pricing. Adding to the day's bullishness was promising data on a leading vaccine candidate and positive commentary by the Federal Reserve chairman over the weekend.
The surge in oil prices was the main factor driving oil stocks higher on Monday. The improved pricing will benefit financially challenged producers like Apache, Callon, and Cenovus. All three have had to make significant spending cuts over the past couple of months to realign their businesses with lower prices.
For example, Apache slashed its dividend 90% and cut capital spending by 40% to conserve cash during the downturn. The company made those moves to ensure it had the liquidity to manage $937 million of bonds coming due in 2021 and 2023. Apache might not be able to refinance that debt if market conditions don't improve because a credit rating agency slashed its debt rating to junk territory. But with oil prices bouncing back today, investors are optimistic that the worst might be over for the oil market, which bodes well for Apache.
Callon Petroleum is also in a tight spot as a result of crashing crude prices this year. With junk-rated credit and lots of debt, the company hired financial advisers to help restructure its balance sheet, which could include filing for bankruptcy. However, that option wouldn't be necessary if oil prices kept rising, since Callon would have more financial flexibility to address its debt.
Canada's Cenovus Energy has also had to make some tough choices to navigate through the current rough patch. It suspended its dividend and cut its capital spending budget twice to help conserve cash amid brutal market conditions in Canada, where oil has sold for an even lower price than in the U.S. due to the country's infrastructure issues. But with producers in the country curtailing their output (including Cenovus), some of the pricing pressure has subsided. Meanwhile, with demand rebounding in the U.S., which is Canada's main oil customer, it suggests that better days might be ahead for Cenovus.
Even financially strong oil companies like Exxon have felt the impact of lower oil prices. The company reported its first quarterly loss in 32 years during the first quarter. On top of that, it had to slash its capital spending plan to preserve its high-yielding dividend. But with the oil market stabilizing as demand rebounds, Exxon's payout might survive this downturn. That would be quite an achievement given the number of energy dividends that have fallen along with crude prices.
Now what
After several bleak weeks, the oil market is beginning to show signs of life as demand has started rebounding. That's helping burn off some of the excess inventory that has been weighing on crude prices. If that trend continues, then oil could keep rallying.
That doesn't necessarily mean oil stocks are out of the woods just yet. Many producers need prices to rally back above $50 a barrel so they can generate enough cash to sustain their operations comfortably. Because of that, investors still need to tread carefully around the oil sector.
