Sunday, 28 December 2014

Forecasters, Companies and Investors

The Clueless Trifecta: Forecasters, Companies and Investors
The most sobering aspect of the oil price collapse is that is truly came out of nowhere, with none of the economic forecasters at the start of 2014 predicting the magnitude of the drop. In early 2014, Bloomberg's survey of the "most accurate" oil price forecasters yielded a forecast of $105 for oil prices for the year, illustrating that "accurate" is a relative term in this market. In a Reuter's poll in December 2013, which surveyed analysts about oil prices in 2014, the lowest price forecast was $75 by Ed Morse, Gobal Head of Commodities Research at Citibank and a longtime bear on oil prices. 

If you believe that oil companies, being closer to the action, were prescient, you would be wrong. Early in 2014, Chevron announced that its budgeting would be based upon oil prices of $110/barrel, with John Watson, the company’s CEO, stating, “There is a new reality in our business… $100/bbl is becoming the new $20/bbl in our business… costs have caught up to revenues for many classes of projects.” and adding that, “If $100 is the new $20, consumers will pay more for oil.” Chevron was not alone in this assessment and oil companies globally made investment, acquisition and production decisions based upon the assumption that triple-digit oil prices were here to stay, which explains why at a $60 oil price or lower, almost a trillion dollars in investments made by oil companies were no longer viable. Looking at airlines, where fuel costs represent a large proportion of operating expenses, there is evidence that fuel hedging follows the oil price, rather than leading it. Fuel hedging peaked in 2008, just as oil prices peaked, and have tracked oil prices down in the years since. 

Completing the clueless trifecta, investors have also been behind the curve on oil prices.  Institutional money continued to flow into oil stocks for most of the year and flowed out only in the last quarter as oil stocks tumbled.  The so-called smart money did worse, with hedge funds among the biggest losers in oil stocks, with big names like Icahn and Paulson leading the way with big money-losing bets. If there is any good news for oil price bulls, it is that oil forecasters are now predicting lower oil prices next year, oil companies are reassessing their assumptions about a normal oil price, airlines are reducing or even suspending their hedging and institutional investors are fleeing from oil stocks. Given their collective track record, this may be the best time to bet on rising oil prices.

As we have decided that $57 is a reasonable price ,we shall stick with it. There may yet be a little more downdraft to occur . But, the longer term investor should now be seeking this opportunity with gusto .

   And May

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