How Low Can Oil Prices Go?

George Soros thought he knew back in February how low oil prices might go. His family investment firm took new positions in the energy sector after crude prices fell by about 60% between June 2014 and January 2015. At the time a barrel of black gold would have cost around $60 a barrel.

Fast forward to August 2015 and we now find that Soros’ family firm has reportedly been trimming its exposure to oil. This time – with oil at an even lower price of $42 a barrel – the family-run hedge fund has unloaded its investments in Canadian and American outfits that are exposed to oil, gas and renewable energy.

Loss of confidence

It would appear that the hedge fund has lost some (if not most) of its confidence in a rebound in energy prices. This follows the now well-rehearsed arguments that the supply of oil could continue to exceed demand for quite some time. There are some experts who even believe that oil prices could plunge to as low as $15 a barrel.

But let’s not forget that it wasn’t too long ago when Goldman Sachs said oil could hit $200 a barrel, should the world experience a “major disruption”. That was at a time when markets were badly shaken by the credit crunch, which was followed by a fall in the value of the US dollar.

How things have changed in the space of just seven years.

Far from rosy

A global economic slowdown has dampened demand for energy. The slowdown in Europe and China has meant that both economies now need less oil. In fact, demand for oil is only expected to grow around 1% this year, while production continues to increase.

Meanwhile, there are signs that the Organisation of Petroleum Exporting Countries (OPEC) intends to sustain oil production, even amid signs that there is a surplus of oil. Throw into the mix a rising dollar, which effectively pushes down commodity prices and the outlook for oil looks decidedly bleak. The future for companies that are related to oil, whether directly or tangentially does not look too rosy, either.

Doom & gloom

Presently, oil-related companies are shrouded in more gloom than a rain-laden cloud. For instance, shares in Keppel Corporation (SGX: BN4) have fallen by almost a-third from their 12-month high. Elsewhere, shares in Sembcorp Marine (SGX: S51) are down by about 50%, while many of the smaller oil companies such as Ezra Holdings (SGX: 5DN) have seen their shares fall by considerably more.

This could be right time to look at oil companies – a time when they are deeply out of favour.

When an industry is surrounded with doom and gloom, such as the oil and gas sector right now, there are potentially big winners. That is provided the fundamentals are positive. The worst time is when everyone is talking about them, which can push valuations too high. When valuations are too rich, it is difficult to make money from an investment, even if everything goes right.

Assets on the cheap

Currently, some midcap oil companies in the Singapore valued at less than their Net Assets Value. In other words, investors could, if they wanted, buy $1 worth of those assets for less than a buck.

So it would appear that the market decline has provided an opportunity to buy oil assets on the cheap. That can happen from time to time – doom and gloom can push outstanding companies down to bargain prices.

But whether you take advantage of the bargains on offer depends on whether you believe that oil could stay at current levels or fall to US$15 a barrel.

A version of this article first appeared in the Independent on Sunday.

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