Note: You can click through on any of the graphs to see a larger image.
The above graph shows West Texas Intermediate (WTI) oil prices for about the last four years.
During the past several months, I expressed my bullishness for commodities in general and oil in particular. I remain bullish on oil, even in the face of the market meltdown. Oil demand might moderate slightly, but even the International Energy Agency forecasts slight growth in oil demand next year. IEA's 10 October 2008 highlights state the following:
Oil demand forecasts for 2008 and 2009 were trimmed by 240 kb/d and 440 kb/d, respectively, given weaker OECD deliveries and the IMF's downward revisions to 2009 global GDP assumptions. World oil demand is expected to average 86.5 mb/d in 2008 (+0.5% or +0.4 mb/d vs. 2007) and 87.2 mb/d in 2009 (+0.8% or +0.7 mb/d).
Some might be inclined to believe that high prices were their own worst enemy. That is, high prices were unsustainably high, which caused a reduction in demand and that led to lower prices. I believe, however, it was not high oil prices, but rather the financial crisis that led to lower prices.
Increasing production levels remains challenging, especially if projects are having difficulty raising sufficient financing in this current harsh environment.
With that as background, I want to focus our attention on Exxon Mobil Corporation (XOM). Obviously, Exxon Mobil is a very complex company with many moving parts. If we had to pick a single driver, however, for value, we would all agree oil price is the most important. So using historical oil prices and share prices, I want to examine Exxon Mobil's valuation further.
Please note that I deliberately chose the end date as 29 August 2008. I wanted to exclude the recent financial turmoil from the graph. By looking at the graph, we note the predicted line is not a great fit. The data itself almost seems to exist in two clumps as shown below.
When looking at the first clump where WTI prices range from about $40 per barrel to about $80 per barrel, we see that Exxon Mobil's stock price appears very sensitive to oil prices. And, if we look the first graph in this article, we know that these lower prices existed from 2004 through to late 2007. Now, if we look at the second clump (the two clumps overlap) of data from $60 per barrel to $150 per barrel, we see that Exxon Mobil's stock price appears almost insensitive to oil prices. Similar to our earlier observation, these higher prices existed from late 2005 onwards.
On Friday, 10 October, WTI closed at about $77.70 and XOM closed at $62.36. If we were to plot this information on the graph, the price seems to fit with the first clump in the lower portion of the graph. Note, however, the tremendous range in Exxon Mobil's stock price when oil prices are near $80 per barrel. Exxon Mobil's stock price ranges from the low $60s to the high $90s. Using this last graph alone, we could argue that the stock price is at lower end of its range.
These are, however, extraordinary times, so I would exercise caution into relying upon too heavily these graphs alone.
If we were to use just Exxon Mobil's stock price and WTI price information, how could we improve our understanding? My answer is to add the WTI futures price information. Rather than just the existing WTI price, I would add WTI futures price five years out for every WTI data point. Five years is simply a convenient timeframe. The key point is to determine whether the market is optimistic or pessimistic about future prices, and how much so.
Not long ago, the NYMEX WTI future curve exceeded $100 per barrel all along the curve. As of today (11 October 2008), the highest price is $88.83 in December 2016. Notice too that even the near month futures contracts are not plunging into the abyss. That is, the future contracts are not signaling a return to less than $50 per barrel or even less than $75 per barrel.
As mentioned at the outset, I have deliberately chosen just oil prices as my sole value driver for Exxon Mobil. Obviously, the company's valuation is much more complex than simply looking at oil prices. With that background, here are key points that we covered:
- Future demand, according to IEA, is not falling off a cliff, but rather the growth is moderating;
- The NYMEX curve is neither overly optimistic (above $100 per barrel) nor pessimistic (below $50 per barrel);
- If we were to add the NYMEX information to our current data set would yield better insights because it would allow us to capture the market's view of future prices; and
- Using just WTI oil prices and Exxon Mobil's stock prices over the last four years, Exxon Mobil's stock price appears to be at the lower end of the range.
Disclosure: I am long Exxon Mobil Corporation stock.
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