A black stain has spread across IPE’s investment pages lately, and not because of a foul-up at the printers.
Whomever I talk to, the seven-month collapse in the oil price to $45/bbl is inescapable. The stain spills out from our briefing on US shale investments, muddying our Special Report on carbon risk before seeping into our coverage of investment-grade credit.
This is interesting. In credit, the effects are being felt now – look at diverging European and US spreads, for example. But when Railpen CEO Chris Hitchens tells us that the carbon-risk debate now “looks quite different”, he must be looking years ahead and assuming oil could be stuck short of the $100/bbl mark we’ve become used to.
I suspect he may be right. It is difficult to identify a demand-side event that can account for the suddenness of the collapse. On the supply side, Middle Eastern producers are prepared to put large parts of North America’s ‘tight oil’ industry out of business to protect their market share. Get the price down below $50/bbl and a lot of tight-oil producers start losing money. Keep it there long enough and rigs start to close.
The number of operational North Dakota oil rigs is back at levels last seen four years ago. That sort of thing would eventually push prices up again if Middle Eastern producers were not prepared to forego excess profits for the long-term security of guaranteed market share. Futures curves have gone into contango, but you only have to pay $53/bbl for delivery in 12 months, and $60/bbl as far out as December 2016.
History suggests this ought to be good for growth. In Japan, it should offset the headwinds of higher sales taxes and higher import costs. In the euro-zone, it is the one demand-boosting ‘tax cut’ the periphery can enjoy without upsetting the fiscal hawks. It is encouraging to see, behind the euro-zone’s headline deflation, a levelling-off of the index once energy prices are stripped out. Capex outside the oil and gas sector – only 10% of the total and much less in Europe – should pick up nicely. Energy-sector job losses should be offset elsewhere.
There are some causes for concern. Why has copper sold off, too, if the oil story is about supply? Why were US retail sales so awful in December? Why do bond yields keep grinding lower?
If this is not about some fundamental demand-side malaise it might still reflect nervousness about the amount of capital cheap oil will destroy. Remember our investment-grade bond managers, smarting from 50-60 basis points of spread widening in energy; and then think about the money that poured into the high-yield bonds and loans that leveraged the shale boom.
That financial exposure could yet turn the good news of cheap oil bad. After all, seven years ago cheaper houses ought to have been good news, too.