I would be willing to pay $5 for a gallon of gas if I could get a 10% increase in the portfolio. (a recent client comment)
I’ve already noted that 2016 is off to a rough start. Many attribute this year’s weakness in the market due to a variety of reasons, i.e., China, Global Slowing, Fed tightening and falling Oil prices. This week I want to focus on why oil is falling.
The price of crude is down roughly 25% this year, which in turn has dragged down energy company shares by ~ 6.7%, which has helped pull the overall index down roughly 6% for the year..
Here's what experts think is going on:
A long run of high oil prices inspired drillers to develop new techniques and to go to new places to find more oil, and they succeeded. In the U.S., improved oil drilling technologies, known generally as fracking, have added more oil to the global market than the total production of any other nation in OPEC other than Saudi Arabia
As production grew, producers in the U.S. and abroad did not cut back production very much, despite the low prices, and supply continued to outpace demand.
U.S. stockpiles are now at their highest level in at least 80 years and the International Energy Agency predicts that during the first half of this year, global oil supply could outstrip demand by 1.5 million barrels per day.
Demand for crude has been growing steadily, but that may not last because economic growth in China, the world's second-largest oil consumer after the U.S., is slowing.
So why do low oil prices hurt the stock market?
Oil company profits are plummeting, so oil company shares are plummeting, and that is dragging down the whole market.
Analysts estimate that profit for S&P 500 companies in total are on track to be down a recession-like 5.8 percent for 2015, but if energy companies were removed from that figure, S&P 500 profits would be up a very healthy 5.7 percent for the full year.
That profit drop directly leads to lower share prices that drag down entire indexes. Two of the biggest oil companies in the world, Exxon and Chevron, are part of the 30-member Dow Jones industrial average. Of the 20 biggest share price losers in the S&P 500 this year, 13 are energy companies.
Investors are also selling shares of companies that may have exposure to the oil industry, like certain banks. Now the price of oil has now fallen so low that investors are also worried that it could mean global economic growth is much weaker than expected, which could hurt all companies.
Another theory to suggest a lot of the selling has been coming from the Sovereign Wealth Funds (SWFs), and the largest SWFs are in oil exporting countries. The point was/is that with Crude's Crash these countries all need cash and the quickest way to get it is for the SWFs to sell securities.
Source: Associated Press, 1/20/2016
