Download OPEC – are we at the start of a long bear market in crude oil?

OPEC – are we at the start of a long
bear market in crude oil?
Hilliard MacBeth
Hilliard’s Weekend Notebook – Friday, December 31, 2015
Richardson GMP
10180 101 Street, Suite 3360
Edmonton, AB T5J 3S4
According to a list in the Globe and Mail on December 23, 2014 Canada produces
the equivalent of 3,948,000 barrels of oil per day. This production level puts Canada
fifth in the world, just behind China in fourth place (4.1 million) and well below the
Big Three —Saudi Arabia, the Russian Federation and the United States, all
producing above 10,000,000 barrels.
The Globe also published an article on December 16 talking about the price of oil
and Canada’s housing market by Don Pittis, “Face it, Canada’s housing market
could fall like oil.” Pittis suggests that the most disturbing thing about the collapse
in the price of crude oil, almost 50% in less than six months, is how few experts
gave any warning. He also relates the severity of the collapse in WTI to the housing
bubble and quotes me, but that’s a story for another day.
Commentators ignored oil production data which showed, for years, that the U.S.
was growing production rapidly by exploiting “tight” or “shale” oil using new
technology, including fracking. My clients will confirm that for more than a year
we’ve been presenting, in our regular client meetings, a slide that highlights the
exponential increase in U.S. production, from about 5 million barrels to 9 million
barrels. In our model portfolio we’ve been underweight the energy sector since
before 2008, although we still have one position -- about 4% weighting.
The only recent similar drop in oil prices was in 2008 when the financial crisis hit. It
wasn’t too much oil that caused that drop but a global recession. Demand
disappeared, the Saudis cut production and the price rebounded once the recession
ended.
The last six months’ collapse in the oil price is different and more serious. This time
the cause of the drop is a worldwide oil glut. The Saudis are tired of being the only
one that sacrifices output for the good of the cartel. And the fact that two large
producers, Russia and the U.S., are not members of OPEC and won’t cut production
doesn’t help. Russia and the U.S. would be the big beneficiaries of a Saudi cut in
production, not OPEC.
So OPEC, founded in Baghdad in 1967, has outlived its purpose and is defunct, in
all probability. There are too many new producers in the world with large sources of
The opinions expressed in this report are the opinions of the author and readers should not assume they reflect the
opinions or recommendations of Richardson GMP Limited or its affiliates. Assumptions, opinions and estimates constitute
the author’s judgment as of the date of this material and are subject to change without notice. We do not warrant the
completeness or accuracy of this material, and it should not be relied upon as such. Before acting on any
recommendation, you should consider whether it is suitable for your particular circumstances and, if necessary, seek
professional advice. Past performance is not indicative of future results. Richardson GMP Limited is a member of
Canadian Investor Protection Fund. Richardson is a trade-mark of James Richardson & Sons, Limited. GMP is a
registered trade-mark of GMP Securities L.P. Both used under license by Richardson GMP Limited.
Tel. 1.780.409.7735
Fax 780.409.7777
www.TheMacBethGroup.com
Hilliard MacBeth
Director, Wealth Management
Portfolio Manager
Tel. 780.409.7740
production. Control of the world crude oil market is no longer possible. In history,
cartels always have fallen apart; this one lasted much longer than most.
If OPEC is toast then what happens to energy markets and the price of oil? Well, a
brief
look
at
history
will
help.
The price of crude oil peaked at $120 in 1979 after rising for ten years from a low
of less than $10. From 1979 to 1998 the oil price dropped, a bear market lasting 19
years. Then the crude price shot higher, going from today’s dollar equivalent of
about $20 to $140 in 2008. That bull market lasted about ten years, like the one that
ended in 1979.
Now we are starting a new year, 2015, seven years into a bear market for crude oil.
While most people I know here in Alberta talk about a rebound in prices, that’s not
what history is saying. History suggests that we have at least another five to twelve
more years of decline to come. Investment will slump, especially in higher cost
production areas such as offshore drilling, shale and, dare I say it, oil sands. Lower
cost producers will eventually regain control of the market and the new bull market
will start again, but that point is several years into the future. A bear market lasting
the equivalent number of years to the last one would end in 2027. This is what it
looks like in a graph:
Chart courtesy of The Motley Fool (www.fool.ca)
Alternative energy such as solar and wind are growing faster than most people
realize. Widespread adoption of electric cars and trains would put a big hole in
demand for crude. Tesla just announced an increase in the range of travel on one
charge to 400 miles.
There hasn’t been any increase in petroleum product demand among OECD
countries for five years now. Even China is showing very small increases, which
surprises me, but the pollution problem is finally getting some attention from
officials.
And millennials aren’t so enamored with car ownership and suburban living as the
baby boomers. Some of the Y generation are opting to live closer to the centre of
cities and don’t even own a car. If they need one they just rent.