Specious Argument

For September, I am raising my forecast for West Texas Intermediate oil prices to range between $37.50 to $47.50 per barrel.

For the past two months, WTI prices have been stuck in the low $40s range. For the most part, I expect that range to continue for September. I do not expect WTI prices to stay below $40 for an extended period.

Many pundits and forecasters expect a continued strengthening of oil demand. In OPEC’s latest “Monthly Oil Market Report,” it expects oil demand to reach 90.6 million barrels per day in 2020 and 97.6 million barrels per day in 2021. Of course, these assumptions are predicated on COVID-19 not making a vigorous comeback.

The overall mood toward oil and oil stocks is pessimistic. The Wall Street Journal article “Exxon’s Departure From Dow Highlights Market’s Retreat From Energy Bets” (subscription required) highlights how far energy companies have fallen out of favor.

It is also a reminder of Exxon’s fall from the top echelon of American industry. As recently as 2013, Exxon was the largest U.S. company with a market value above $415 billion. It has since shrunk to less than $180 billion and has been eclipsed by the technology giants such as Apple Inc., Amazon.com Inc. and Microsoft Corp. that now drive the American economy.

“Exxon, that used to be a behemoth in the U.S. markets, and now it’s dropped out of the Dow,” said Matt Hanna, portfolio manager at Summit Global Investments. “That just goes to show how quick things can change and how far energy has fallen as a sector.”

Usually, market contrarians say a sector that is so beaten down should be ripe for bargains. But many investors remain skeptical of an energy rebound, pointing to muted expectations for global growth and spotty earnings.

As oil prices creep up, oil stocks should begin to show some signs of life. Right now, however, technology stocks are sucking all of the oxygen out of the investment arena.

For those that are brave enough to invest in energy companies, I suggest sticking with strong, well-capitalized companies that can withstand lower prices for longer periods. If oil prices were to spike, then the higher leveraged oil companies would outperform, but with the present slow upward movement in oil prices, a more cautious approach may be more appropriate.

Regarding the upcoming US election, I believe it’s a nonissue. The economy will continue to recover over the next several months provided that there are no COVID-19 setbacks.

In summary, I expect slow, steady economic progress with WTI prices staying in the low- to mid-$40s price range for most of September.

For August, I am extending my July forecast for West Texas Intermediate of $35 to $45 per barrel.

I was hoping the world environment would encourage a higher forecast for August, but, with the increase in the number of new COVID-19 cases worldwide, I decided to be cautious. As stated last month, I expect governments and people will learn to cope with the coronavirus, numbers have increased faster than I expected. The question is whether people will adopt measures to help reduce the spread of the virus—such as social distancing and wearing masks. If so, I hope further lockdowns are unnecessary. According a Wall Street Journal article “U.S. Leads the Globe as Coronavirus Deaths Pass 150,000, Hospitalizations Rise” (subscription required), new cases might be declining.

“Where you limit transmission, you’re going to limit the death toll,” Dr. Fortune said Wednesday.

The U.S. seven-day average of deaths is about 1,019, according to the Journal’s analysis, but the 14-day average is lower, at around 914. For new cases, the seven-day average is about 64,684, less than the 14-day average of around 65,745, suggesting that new cases are on the decline.

The deaths haven’t mounted as quickly during the latest surge in cases as they did during the initial wave in the spring. The U.S. went from a handful of deaths to 100,000 deaths from late March to late May—and topped 125,000 (subscription required) a little over a month ago. The country ranks 10th in the world in deaths per 100,000 people, according to Johns Hopkins.

As an aside, I enjoy following the travails of Mark Wallace, an excellent photographer, as he treks about the world on his motorbike. In a recent blog post “Quarantined in Argentina,” he detailed how he was affected by their protocols. While I enjoyed reading about his experiences, I also enjoyed viewing his photography.

I hope that the worst of the coronavirus is behind us and that we can begin to meaningfully progress to bringing the number of cases down across the globe. If that situation occurs, then oil might continue its upward path.

To reiterate, I expect West Texas Intermediate oil prices to range between $35 and $45 per barrel for August.

I expect West Texas Intermediate oil prices to range between $35 to $45 per barrel for July. If oil prices go below $35, I do not expect them to stay there for long. If, however, prices surpass $45, they might stay at that level.

Although I gave a range of between $30 and $40 per barrel for June, prices have stayed about $35 so far, with prices even slightly exceeding $40 for a brief period. Even with the current outbreaks of COVID-19 in a few states, I believe this upward trend will continue. I expect governments and people will learn how to cope with the coronavirus. When the number of new cases spike up, more preventative measures will be reinstated. And given the current environment, OPEC+ might continue their cuts into August. Both actions will continue to reduce the glut of stored oil.

I also mentioned that investors with longer-term horizons consider the stocks of well-managed and well-capitalized oil companies. In early June, the stock prices of oil companies in general lifted, but then fell back down even as oil prices remained relatively firm. Although I am unable to explain why stock prices drifted back down, I continue to believe that good quality oil companies have attractive stock prices at these current levels.

Cumulative Number of COVID-19 Cases in Alberta

Some might point to the increased nervousness because of the coronavirus outbreaks as the reason for softening stock prices. If we look at Alberta’s number of COVID-19 cases, we see that the cases have leveled off. Should the numbers begin to spike upward again, I expect the government to roll back some of the opening measures. For example, perhaps bars will close or have more restrictions placed upon them.

I am going to take a slight detour to discuss semi-log graphs.

Some might have noticed that I used a semi-log graph to provide the Alberta coronavirus case numbers. The reason for using semi-log graphs is to show better the rate of increase. By using a traditional graph, it is difficult to detect changes in rates of growth.

Traditional Chart of Percentage Increases

For example, I created a sample graph where there are three curves: one, the green curve that starts with a growth rate of 15 percent and ends with a growth rate of 30 percent; two, a blue curve that grows at a constant 15 percent throughout; and a red curve that starts with a growth rate of 15 percent and ends with a growth rate of zero percent. By looking at the graph with its three curves, we know that the green curve is growing rapidly because it goes parabolic and it completely overwhelms the other two curves. Furthermore, because the end value is so large for the green curve, it is hard to discern any data or trends in the first half of the period for any of the curves.

Next, I created a semi-log chart using the exact same data. The green curve is slightly convex because its growth rate increases throughout from 15 percent to 30 percent. The blue curve is linear throughout because it grows at a constant 15 percent. And the red curve is concave because its growth decelerates from 15 percent to zero percent.

Semi-log Chart of Percentage Increases

If you are interested, you can download the Excel spreadsheet and play with the values yourself.

When we look at graphs showing the number of coronavirus cases, steeper curves show faster growth rates, linear curves show constant growth rates, and flatter curves show almost no growth rate. Going back to the first graph with the number of Alberta COVID-19 cases, we note that the growth rates was high in first week or so. That is expected because of the low base values. Then the growth rate decelerated from mid-March to early May. From early May onwards, the growth rate has plateaued. When I look at the numerical data, the growth rate for about the last month is roughly 0.5 to 1 percent per day.

Returning back to the topic of July’s oil prices, I expect that Alberta will watch the number of coronavirus cases and will, if necessary, adjust the preventative measures to keep the growth rate at a low value so that our social infrastructure can cope and to save and protect the health of Albertans. I further expect most jurisdictions to follow this same path.

Wrapping up, I expect WTI prices to range between $35 to $45 per barrel for July. Most jurisdictions will manage their policies so that the coronavirus growth rates moderate or stay low. OPEC+ might prolong their production cuts into August. Both measures are likely to reduce the glut of stored oil and push prices higher. And I continue to believe that stocks of well-managed and well-capitalized oil companies represent good value, but you and your financial adviser are responsible for your investment decisions.

For June, I expect West Texas Intermediate oil prices to range between $30 to $40 per barrel. If oil prices go below $30, I do not expect them to stay there long. Furthermore, I expect oil prices to drift upward over time. So if oil prices surpasses $40, they might stick. I am not overly confident of my forecast, even though it covers a wide range.

The Financial Times article “US shale industry braces for wave of bankruptcies” (subscription required) suggests hard times remain for the shale industry.

Analysts predict 250 companies could go bust before the end of next year unless oil prices rise fast enough to start generating cash for producers wilting under punishing debt loads.

A recent rally has taken the price of West Texas Intermediate, the US marker, back above $30 a barrel, having traded in negative territory last month. But it remains down by half since January — and well beneath average break-even oil prices in the shale patch — leaving many more producers teetering on the brink of bankruptcy.

The Wall Street Journal article “Coronavirus Threatens to Hobble the U.S. Shale-Oil Boom for Years” (subscription required) continues with that same theme.

While oil prices have rebounded in recent days and are above $33 a barrel, U.S. output is still poised to fall because companies aren’t drilling enough wells to make up for production declines from existing wells. Shale wells produce a lot of oil and gas early on, but quickly lose steam. Without investing in new wells, many companies’ output would decline by 30% to 50% in just a year, research firm Wood Mackenzie says.

In a recent Bloomberg article “Global Oil Demand Has Yet to Peak, Energy Watchdog Predicts,” (subscription might be required) IEA’s Faith Birol suggests that new demand from India and Africa will not offset potential reduction in consumption from the US.

“If there’s a strong economic recovery, American business consultants using Zoom will not compensate for 150 million new urban residents in India and Africa traveling, working in factories and buying products transported by trucks,” Birol said.

With most regions within the US now opening up and social distancing decreasing, oil demand and consumption are picking up. For those interested, the Federal Reserve Bank of Dallas provided an interesting article “New Dallas Fed Social Distancing Index Gives Insight into COVID-19’s Economic Impact.” The article states that its index is tightly correlated with Google COVID-19 Mobility. I would assume that it also correlates well with Apple Maps Mobility Trend Reports.

While I believe that the oil industry still faces a challenging period, market forces along with OPEC+ are helping to bring the supply-demand dynamic into balance. Furthermore, once we are past COVID-19, the demand for oil may surpass prior levels.

For these reasons, I still maintain that buying well-managed and capitalized oil companies may be a prudent investment decision for those with a long-term horizon. And as stated last month, I am not providing any investment advice or guidance, and you and your adviser are responsible for your investments.