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Macro Insight
February 2015
Lower oil prices:
Causes and implications
For professional clients
and institutional investors only
Summary
Why have oil prices fallen?
 The over 50% fall in oil prices since June 2014 has
been primarily supply-driven, though weak demand
has also played a part.
Since their peak in June 2014, oil prices have tumbled
by over 50%, with both WTI and Brent crude falling by
around USD60 per barrel (Figure 1). This has been
driven primarily by a surge in supply, though weak
demand has also played a part. Since June, oil
produced by Organisation of the Petroleum Exporting
Countries (OPEC) members has accelerated
considerably. This is partially due to Iraq being able to
meet its production targets, despite escalating
geopolitical tensions, and a better-than-expected
recovery of Libyan oil production. In addition, nonOPEC oil supply has continued to grow at a strong rate,
driven by the US shale revolution. On the demand side,
weaker global economic growth expectations have also
exerted pressure on oil prices. Despite the US
experiencing robust growth in the latter half of 2014, the
Chinese economy has continued to slow, growth in the
Eurozone remains stagnant and Japan has recently
entered recession. It is important to note that weaker
demand has also contributed to considerable falls in
other commodity prices, such as coal, copper and steel.
 Lower oil prices will exacerbate global disinflationary
pressure, but should provide a net boost to global
growth, though there will be winners and losers
among countries.
 With the exception of the energy sector, equities
have proven to be fairly resilient to falling oil prices.
Historically, defensive stocks such as healthcare and
utilities appear to outperform relative to the broader
market index when oil prices are falling, while
materials and industrials underperform.
 Within fixed income markets, nominal developed
market government bond yields have fallen, driven
by deteriorating inflation expectations, while US high
yield spreads have widened considerably.
 The net boost to global growth should be supportive
of risk assets such as equities. An attractive entry
point for high yield credit may also arise should oil
prices stabilise, or even rebound, given the recent
spread widening.
Figure 1: Oil prices have collapsed by over 50% since
June 2014
 Falling oil prices have led to perceived “safe-haven”
developed market government bonds becoming
increasingly less attractive, given that yields have
fallen considerably since June. However, the recent
bouts of market volatility and increased risk aversion
highlight the need to construct a well-diversified
portfolio.
Source: Bloomberg, February 2015
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Figure 2: The fall in oil prices has been primarily driven by a surge in global supply
Source: Energy Intelligence Group, HSBC Global Asset Management, December 2014
Although global supply and demand forces had been
pointing to an oil supply glut for many months, oil
prices were supported by the belief that OPEC would
react by cutting their production targets, as they have
done in the past. However, at the November OPEC
meeting, the oil cartel decided to take no action,
thereby maintaining its aggregate production target of
30 million barrels per day. Indeed, Saudi Arabia’s oil
minister stated that it was “not in the interest of OPEC
producers to cut their production” given that at current
lower prices their market share is likely to increase.
The outcome of the meeting caught the market off
guard and triggered a steep sell-off in oil prices. As a
result of recent developments, financial market
participants have revised down their oil price forecasts
significantly, both in the short and long terms.
Interestingly, the current prices of crude oil futures
contracts imply that lower oil prices are likely to
persist, futures prices suggesting that WTI crude oil
will remain below USD60 per barrel for the next twelve
months (Figure 3). This likely reflects an expectation
that global oil supply will remain relatively high, with
both OPEC and the US unlikely to cut production
soon, while global demand is expected to remain
subdued, particularly as China attempts to rebalance
its economy and make it less commodity-intensive.
However, market expectations and implied futures
prices can change rapidly, especially in the face of a
significant supply shock such as a sudden escalation
of geopolitical risk or a cancellation of oil projects as
producers react to lower oil prices.
Macroeconomic implications
Figure 3: Crude oil futures currently suggest that the
recent fall in oil prices is likely to persist
Figure 4: Oil producing countries that have high fiscal
breakeven prices are the most vulnerable
Source: Bloomberg, at of February 2015.
Source: IMF, HSBC Global Research, Ecuador Finance Ministry
Lower oil prices should provide a net boost to
global growth, though there will be winners and
losers
A fall in oil prices will likely provide a net boost to
global economic growth, primarily through higher
consumption as real household incomes rise, and
through lower input costs. Indeed, a recent simulation
conducted by the International Monetary Fund (IMF)
estimates that global GDP growth in 2015 will increase
by 0.3-0.7% compared to a scenario without the drop
in oil prices. Although the global economy is likely to
benefit in aggregate, there will be a significant
distribution of wealth from oil producers to oil
consumers. Oil consumers, such as the US,
Eurozone, Japan and China, are likely to benefit from
lower oil prices through a boost to real household
disposable income, lower manufacturing input costs
and improved current account positions.
Of course, the strength of these effects will vary
across countries. For example, China and India are
likely to benefit the most from the real income effect
given they have a large share of oil consumption as a
percentage of GDP. Similarly, US consumers are
likely to benefit more than UK consumers due to the
lower level of fuel taxes in the US than in the UK,
though there may be potential job losses in the US
shale energy sector.
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However, the effect of falling oil prices on oil
producers will undoubtedly be negative and will
detract from economic growth through falling oil
revenues and profits. The economies that are most
vulnerable are likely to be those that have high fiscal
break-even prices, that is, the price of oil at which
governments of oil-exporting countries are able to
balance their government budgets. These notably
include Venezuela, Nigeria and Saudi Arabia (Figure
4). Russia is also particularly vulnerable given that
energy accounts for 70% of its exports and half of
government revenues.
What has the impact been on other asset
classes?
Although falling oil prices have triggered bouts of
volatility and increased investor risk aversion over
recent months, equity markets have proven to be fairly
resilient. Indeed, the MSCI World index excluding the
energy sector has posted a gain of over 4% in local
currency terms since June (as at 30 January 2015),
while energy stocks have fallen almost 25% over the
same period (Figure 5). Within emerging markets, it is
noticeable that Asian equity markets, which are
majority oil consumers, have outperformed their Latin
American counterparts, who are generally highly
reliant on commodity exports, including oil (Figure 6).
Headline inflation will fall considerably across the
world, though the Fed may “look through” this
when determining its monetary policy
Falling oil prices will also translate into lower inflation.
Indeed, the recent decline in oil prices has already led
to the Eurozone slipping into deflationary territory from
December, while the most recent inflation data in the
US and UK also showed prices dropping sharply, with
both economies likely to experience deflation at some
point this year. Within emerging markets, falling oil
prices have so far had a mixed impact on inflation.
Although Brazilian inflation has edged slightly lower,
both Indian and Chinese inflation actually picked up in
December as a result of favourable base effects and a
sharp rise in food inflation, which is typical in the runup to the Chinese New Year. These effects are likely
to only be temporary however and falling oil prices will
weigh on inflation in the months ahead. In Russia,
inflation has soared, but this has been driven by a
sharp depreciation in the rouble.
Figure 5: Equities have proven to be fairly resilient since
June 2014, though energy stocks have underperformed
Source: Bloomberg, HSBC Global Asset Management, February 2015
Past performance should not be seen as an indication of future returns
In terms of monetary policy, the US Federal Reserve
is likely to err on the side of “looking through” the
temporary fall in headline inflation caused by lower oil
prices and focus instead on the improving health of the
labour market and its impact on core inflation.
However, given medium and long-term inflation
expectations have deteriorated in recent months as a
result of falling oil prices, there is an increased
probability that rates may stay lower for longer, which
would be supportive for both equity and fixed income
markets.
Figure 6: Emerging Asia equities have outperformed their
Latin American counterparts as oil prices have fallen
In paralel, the European Central Bank and Bank of
Japan are likely to continue their accommodative
monetary policy stances as they aim to fight off
disinflationary pressures and falling inflation
expectations. The Bank of England also struck a more
dovish tone in its November Inflation Report, citing a
deteriorating growth and inflation outlook as a reason
to delay the timing of its first interest rate rise. Indeed,
the two members of the MPC who were previously
pushing for a rate rise in mid-2014 have now stopped
doing so.
Source: Bloomberg, HSBC Global Asset Management, February 2015
Past performance should not be seen as an indication of future returns
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Figure 7: Previous occasions when oil prices have fallen by over 50%
Change in MSCI
World Index (%)
Change in US
Treasury 10Y
Yield (bps)
-60.3
14
-189
-
-54.9
16.4
-91
1260
33.9
-76.7
-30
-185
1274
49.3
-54
2.1
-96
260
Start Price
(WTI,
USD/bbl)
End Price
(WTI,
USD/bbl)
Price fall (%)
4
31
12.3
5
39.7
17.9
Demanddriven
5
145.3
Supply-driven
8
107.3
Start
End
Dynamics
No. Months
1
Nov-85
Mar-86
Supply-driven
2
Oct-90
Feb-91
Supply-driven
3
Jul-08
Dec-08
4
Jun-14
Present
Change in Barclays
US HY Spread (bps)
Note: MSCI World performance expressed in local currency terms. Source: Bloomberg, HSBC Global Asset Management, 30 January 2015.
Past performance should not be seen as an indication of future returns
Over the last 30 years, we have identified three
previous occasions when the oil price has fallen by
over 50% in the space of a few months (Figure 7).
Interestingly, the two supply-driven oil price collapses
identified (in 1985-1986 and 1990-1991) coincided
with equity market rallies. For example, from
November 1985 to March 1986, the over 60% fall in
the oil price, triggered by Saudi Arabia ramping up its
production to full capacity in order to defend its market
share, facilitated a 14% rally in the MSCI World index
in local currency terms during the same period.
Developed market equities have not experienced as
strong a rally this time around, with the MSCI World
Index returning just over 2% in local currency terms
(as at 30 January 2014). However, there have been
large differences between regions, with Japan’s Nikkei
225 rising over 15% as the Bank of Japan provided
further monetary stimulus, while US stocks were
weighed down by a stronger USD and European
equities were held back by concerns over economic
growth momentum and disinflationary pressures.
Emerging market equities have also experienced
differences within regions, with commodity-consumers
broadly outperforming commodity-producers. Looking
forward, equity markets should be supported by a
falling oil price if it translates into a much-needed
boost for the global economy, benefitting energy
consumers the most.
Defensive stocks such as healthcare and utilities
appear to outperform relative to the broader market
index as oil prices fall, while materials and industrials
underperform. Indeed, these sector trends appear to
be fairly consistent over time, as illustrated in Figure 8.
Within fixed income markets, yields on developed
market government bonds have fallen since June,
reflecting deteriorating inflation expectations. 10-year
US Treasury yields have fallen over 96bp to 1.64%
and German 10-year bund yields have fallen over
100bp to 0.30% (as at 30 January 2015), though
expectations of ECB quantitative easing is likely to
have also contributed. The fall in government bond
yields is consistent with what has been observed
through time. “Safe-haven” developed market
government bond yields have fallen in each of the
three previous occasions identified where the oil price
has fallen by over 50%, again driven by falling inflation
expectations.
In contrast to the strong performance of developed
market government bonds, the US high yield market
has experienced significant spread widening over the
past few months (Figure 9). This is driven by the fact
that energy companies have significantly increased
their share of the US high yield benchmark, with a
weight of approximately 15% in 2014, compared to
less than 5% ten years ago. Looking back to the
previous periods of large oil price falls identified, US
high yield spreads also widened substantially.
However, the spread widening observed in both 199091 and 2008 was each time associated with
recessions and soaring high default rates, which is not
the case today.
Within sectors, energy stocks have significantly
underperformed since June, as expected. However,
across other equity market sectors, the impact of
falling oil prices has been more varied.
Figure 8: Historically, defensives such as healthcare and
utilities have outperformed as oil prices fall
Figure 9: US high yield spreads experienced significant
widening as oil prices tumbled
Source: Bloomberg, HSBC Global Asset Management, February 2015
Past performance should not be seen as an indication of future returns
Source: Bloomberg, HSBC Global Asset Management, February 2015
Past performance should not be seen as an indication of future returns
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Investment Implications
Assuming oil prices remain at or around current levels,
the global economy should receive a net growth boost
over the coming months, which should be supportive
of risk assets such as equities. An attractive entry
point for high yield credit may also arise should oil
prices stabilise, or even rebound, given the recent
spread widening.
Perceived “safe-haven” developed market government
bonds have become increasingly less attractive given
yields have fallen considerably since June, driven by
deteriorating inflation expectations. However, the
recent bouts of market volatility and increased risk
aversion highlight the need to construct a welldiversified portfolio. Moreover, the anticipated transfer
of wealth from oil producers to oil consumers will likely
cause differences in performance between regions,
while sector performance has also varied considerably
over time in response to oil price changes.
Shaan Raithatha
Macro and Asset Strategy team
Julien Seetharamdoo
Chief Investment Strategist
Michael Hampden-Turner
Senior Macro & Investment Strategist
Julien Seetharamdoo is Chief Investment Strategist
within HSBC Global Asset Management’s Macro
and Asset Strategy team where he provides analysis
and research on the key issues facing the global
economy and asset markets. Prior to joining HSBC,
Julien has worked for Coutts & Co, RBS and Capital
Economics. He holds a first-class degree in
Economics from Cambridge University and a PhD in
Economics from the Management School, Lancaster
University focusing on the implications of the
European Monetary Union.
Michael Hampden-Turner is a Senior Macro
and Investment Strategist based in London
having recently joined HSBC Asset Management
in December 2014.
He previously held global macro, asset allocation,
fixed income and credit strategy roles at Citigroup
and RBS over a twenty year career both as a
publishing top down strategist and a desk
analyst. He studied at Trinity College, Cambridge
and Harvard University.
Renee Chen
Senior Macro & Investment Strategist
Rabia Bhopal
Macro & Investment Strategist
Renee Chen joined HSBC Global Asset
Management as Macro and Investment Strategist in
April 2012. Prior to this role, she held Economist
roles at Macquarie Capital Securities, Nomura and
Citigroup and has over 14 years’ experience in
economic and policy research. Renee holds a
master’s degree in International Affairs and
Economic Policy Management from Columbia
University, New York and an MBA in Finance and
Investment from George Washington University,
Washington DC.
Rabia Bhopal is a Macro and Investment
Strategist and provides analysis and research on
the key issues facing the global economy and
asset markets, with particular focus on Frontier
Markets. Rabia has been working in the industry
since 2003. Prior to joining HSBC in 2012, Rabia
held Economist roles at Standard & Poor¹s,
Lloyds TSB Corporate Markets, Financial
Services Authority and the Economist Intelligence
Unit. She holds a degree in Economics from
Brunel University in London.
Herve Lievore
Senior Macro & Investment Strategist
Shaan Raithatha
Junior Macro & Investment Strategist
Hervé Lievore is a Senior Macro and Investment
Strategist based in Hong Kong. Before joining
HSBC, he spent five years at AXA Investment
Managers in London and Hong Kong as an
economist and strategist, covering Asia and
commodities. He was also involved in the firm’s
tactical asset allocation committees. He started his
career 18 years ago at Natixis in Paris, where he
mostly covered Asian markets.
Shaan is a Junior Macro and Investment
Strategist within HSBC Global Asset
Management’s Macro and Investment Strategy
team. Prior to this role, he spent 18 months on
the HSBC Global Asset Management Graduate
Programme working as an analyst on both the
Global Emerging Markets Equity and Equity
Quantitative Research teams. Shaan holds a
bachelor of arts degree in economics from the
University of Cambridge.
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