Although we don't believe in timing the market or panicking over market movements, we do like to keep an eye on big changes -- just in case they're material to our investing thesis.
What: It's no secret oil prices have fallen over 50% from their peak this summer, to $54.53 for West Texas Intermediate crude and $58.98 for Brent crude. The rapid decline has largely been blamed on OPEC, particularly Saudi Arabia, but another driver has been slow demand growth for oil. If one unknown faces energy traders today it's how much oil the world will demand in 2015.
So what: Estimates put oversupply in the oil market at about 2 million barrels per day, or MMb/d, and there are only two ways to fix that imbalance: reduce supply or increase demand. On the supply side, no one appears to be blinking. U.S. shale drillers haven't yet cut capital expenditure plans for 2015, hundreds of offshore drilling rigs are booked for next year, and OPEC has held firm on its production of 30 MMb/d. Supply appears to be set, at least for now.
The demand side of the equation is less known but equally troubling. The International Energy Agency recently lowered its demand forecast for 2015 to 93.3 MMb/d from 93.6 MMb/d. That further spooked the market, but it would still represent growth of 900,000 barrels per day from this year. Demand for oil is growing, and even unchanging supply numbers could cut the oversupply gap.
Now that gasoline prices are falling, demand for oil could grow further if consumers around the world are more willing to spend money on travel or less efficient vehicles. This could be the only hope for a bounce back in oil prices.
Now what: A bottom in oil prices is coming, eventually. We just have no way of knowing when or where it will bottom. For now, supply and demand are so out of whack that prices can't help but decline. In 2015, I think we'll see both adjust, but future pain could still be ahead for investors in oil stocks. I'd make sure to be invested in companies that have a low cost structure or are on the supply side of the business. High-cost producers, such as shale drillers, are the greatest risk in today's energy environment.
Travis Hoium owns shares of Seadrill. The Motley Fool recommends Seadrill. The Motley Fool owns shares of Seadrill. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.