PHONE: 414-223-1099 TOLL-FREE: 1-800-236-1096
SEND US A QUESTION OR COMMENT FOR OUR NEXT SHOW

Bob’s View: Watching oil level

Cost of oil stocks. 3D image.

By Bob Landaas

We’re not going to come to any sort of equilibrium in the markets until oil levels off. Wall Street hates uncertainty.

When the markets do well lately, it’s either because oil’s flat or it’s on an uptick. When the markets go down, it’s because oil’s going down.

For example:

  • Feb. 2-6, the price for West Texas Intermediate crude rose 11.6%; the Dow Jones Industrial Average rose 1.8%
  • Dec. 22-26, the price of oil was relatively unchanged, off less than 1%; the Dow gained 3.3%
  • Jan. 5-9, oil sank 8.7%; the Dow dropped 1.7%

Everybody is trying to figure out where the floor is for oil. Where is the price going to level off, so everybody can take out their erasers and redraw their business plans and put in those new variables?

If you can scratch that off your worry list, you have one less thing to fret about. That’s a base you can build from that really can help the markets. Once we see stability in the oil markets, I think a lot of analysts on the street will know what they’re dealing with.

Oil is sold in dollars around the world. The dollar has strengthened significantly against the euro and yen as oil plunged in price last year. With oil prices stabilizing temporarily around $51 a barrel, the U.S. dollar has leveled off, offering opportunities in foreign stocks, which have outperformed domestics so far this year.

Then you’ve got a backdrop of the earnings season, which is just wrapping up. Most of the forecasts were for a slight increase in earnings for the fourth quarter, a slight increase in sales.

At the beginning of the fourth quarter, analysts anticipated year-over-year profits for the S&P would be up about 1%. By the time analysts end up calculating everything, profits should be up a little over 4%. That’s in spite of the hit that the S&P took because of the oil stocks, which make up about 11% of the index.

The energy sector reported a 22% loss in the fourth quarter, according to the research firm FactSet. At the same time, plenty of companies reported savings from low fuel costs that helped improve their bottom line.

That speaks to the underlying strengths of the broader markets, perhaps to the breadth of the markets. And it’s encouraging. Maybe that 4% is not a great number, but it sure beats 1%.

It’s even more impressive when you consider that in October, when everybody was trying to sharpen their pencils and look at the earnings estimates for the fourth quarter, oil prices had already gone down. So everybody knew that those savings were there. Even with the hit that oil stocks took from the S&P, to go from 1% to 4% is fairly impressive in a short period.

On the other hand, the guidance from companies has been nothing short of cowardly. I know a lot of them don’t like to do guidance anymore, but a lot of people are concerned about the global slowdown, so it would have been reassuring to hear a forecast based on their global outlook. But we didn’t get a lot of that.

The primary question about the drop in oil is trying to figure out how much of the decline is due to oversupply issues and how much is due to a global slowdown in demand.

In January, Goldman Sachs came out with an estimate that 40% of the decline was due to the supply 60% was the global slowdown. You really want to see the opposite. You want to see most of the decline because of supply.

The supply side is easy to explain. The U.S. has doubled its oil production in the last six years. The No. 2 oil producer is Saudi Arabia. They refuse to back down. It could be one of these last-man-standing type of price wars.

I’m rooting for the oversupply issue. If most of oil’s decline is because of reduced demand – because of the global economic slowdown – growth may be less than robust down the road.

There really hasn’t been a statistically dramatic decline in demand. It’s off just incrementally – nowhere near enough to suggest why the price of oil has gone down about 60% since June. With all due respect to Goldman Sachs, it seems to me their estimate of 60% of the decline due to global weakness is hard to imagine with just a slight decrease in demand.

Folks, this isn’t just unusual. It’s off the charts. It’s the only time we’ve ever seen a precipitous decline in commodities, including oil, during an economic expansion. It hasn’t happened before.

The dramatic decline in commodities prices this past year takes most of the pressure off of the Federal Reserve. We almost always worry halfway through the business cycle about the Fed raising interest rates to reduce inflation and eventually winding up putting us in recession.

For me, the bright spot in the collapse of oil is that it takes the heat off the Fed. It helps keep inflation below the 2% target that the Fed has set. As long as the combination of weak demand and oversupply keep oil prices down, it may be quite a while before interest rates go up in a meaningful way.

Bob Landaas is president of Landaas & Company.

(initially posted Feb. 27, 2015)

More information and insight from Money Talk

Money Talk Videos

Follow us on Twitter.

Landaas newsletter subscribers return to the newsletter via e-mail


Text Size:  A  A  reset

Landaas & Company performs investment advisory services only in those states where it is licensed, or excluded or exempted from state investment advisor licensing requirements. All responses to inquiries made by prospective customers to this internet site will not be made absent compliance with state investment advisor and investment advisor rep licensing requirements, or applicable exemptions or exclusions from licensing. MEMBER FINRA MEMBER SIPC

Powered By: mindspike design
ADDRESS: 411 E. WISCONSIN AVENUE, 20TH FLOOR MILWAUKEE, WI 53202
© 2017 Landaas & Company