Talk about some serious Volatility….
I’ve been away from the blog again the past few months. I’ve been spending most of that time with new and existing investing clients, and also considering a change in my career path while looking for some new opportunities.
This had led me to pay a little more attention to the macroeconomic environment of the global economy. I’m rarely one to get caught up in what the talking heads in the media are discussing, but the sharp fall of oil prices has caught my attention as a value investor.
Is there value here? Is there a buying opportunity? If so where? If not….why not?
Those are questions I have asked myself in past corrections, recessions, market declines or when a bubble begins bursting. I have no interest in attempting to catch a falling knife, but I have learned over the years (15+ I’ve been doing this) that where there is smoke there is fire and that can lead to some attractive opportunities. To be completely honest, This feels like a bubble bursting.
So let’s examine some basics first….
– Crude Oil prices have fallen roughly 60% since June of 2014. We’re now sitting around (Jan 13th, 2015) $45/bbl US
– Production (especially in the US) has increased quite significantly over the past 5 years with moderate changes to global demand
– OPEC is interested in maintaining production at current levels
– Many companies in North America have hedged their production as a protective measure, but definitely not under an assumption of $45 oil
– Investors in oil and gas companies (O&G) have sustained fairly significant losses in their portfolios (short-term)
I think for most inexperienced investors this signals a BUY opportunity!! I’m not convinced and to be honest have only modestly entered into positions over the past month into what I would consider to be pure O&G investments.
You may have read my post from a few years ago titled, Never Compete on Price. The most was meant to teach readers (and clients) that competing on price rarely works. BUT there are times when you can compete on price.
The first is when you have such a sustainable competitive advantage that it allows you to sell at the same price of your competitors, but at a significantly higher margin of profit. The second is when you can sustain losses in order to remove competition from the market. Essentially you compete on price when you have scale, financial reserves and the muscle to kill your competition in order to increase your market share.
This is what I (and others) believe OPEC is attempting to do right now. By not reducing production, even at these price levels, many OPEC members will not be generating a significant profit and likely will experience financial losses. Their cost of production is lower than North American producers, but we’re likely close or under their breakeven point at present prices. They’ve seen the production from North America the past few years and they don’t like it. With the global economy slowing and production increasing beyond growth of demand this was their opportunity to act to preserve their market share. I believe they’re serious and they do have the financial reserves to maintain these prices until their objectives are reached.
So where does this leave investors?…..”Be Fearful When Others Are Greedy and Greedy When Others Are Fearful” – Warren Buffett.
But greedy doesn’t mean you dive head first into the Canadian O&G sector picking up stocks that have been hammered by the market. Greedy with due diligence is much different then being Greedy and stupid.
So what to look for?…..
– Great Balance Sheets (I don’t mean good, I said great)
– Companies with scale and resources (reserves)
– Opportunities for Upstream, Midstream and Downstream production
– Organic increases in production (not through acquisition)
– Value stimulus (cost of production lower than peers)
So far that hasn’t left me with too many options, but I did pick up a position in Suncor (SU) just before Christmas and maintained my position in WhiteCap Resources.