The worsening state of the oil market has been one of the major financial talking points of 2015. The Brent benchmark slipped from a height of $115 per barrel last summer to end 2014 at around half that price, and a solid uptick during the spring — prompted by a fall in the US shale rig count — has since petered out.
Indeed, prices have tracked back towards the six-year troughs around $42 per barrel struck back in the summer as oversupply fears grow. Foremost, commodities of all classes continue to sink as Chinese economic cooling gathers pace, and news that Beijing’s crude imports slipped 8.8% month-on-month in October has done nothing to calm investor jitters.
The possibility of fresh stimulus from the People’s Bank of China could take the edge off the demand slump in the near-term. But extra monetary easing this year has done little to stimulate domestic consumption, and broker consensus suggests the country’s painful economic rebalancing is set to worsen beyond this year. The OECD said last week it expects GDP growth of 6.8% in 2015 to fall to 6.5% in 2016, and to 6.2% the following year.
Oil set to keep on tanking
Naturally this poor demand picture bodes extremely badly for the likes of Shell (LSE: RDSB), particularly as North American operators are getting back to work despite the low prices — 2 more US rigs were switched on last week, according to Baker Hughes.
Sure, the rise may be nominal and the 574 operating drills may pale in comparison with the 1,609 working units last October. But given that global inventories remain at breaking point — US stockpiles are a whisker off the modern record of 490.9 million barrels, according to the EIA — and OPEC nations remain determined to grab back market share, rig numbers need to keep falling to ease the market imbalance.
Having reported an eye-watering $6.1bn quarterly loss during July-September, Shell continues to strip costs out of the machine to mitigate the effect of falling revenues. But reduced capex and operational budgets cannot flip earnings back into the right direction on their own, of course, and I fully expect Shell to add to the projected 39% bottom-line slip projected for 2015.
And looking further out, I believe Shell’s project scalebacks — as sage as they are in the current climate — will weigh on long-term earnings expansion should black gold prices recover.
Earnings poised to motor lower?
I am more convinced by the near-term earnings picture over at precious metals refiner Johnson Matthey (LSE: JMAT), although the metals refiner itself still has obstacles to overcome. The company generates 60% of total sales from its Emission Control Technologies, and the business saw revenues here rise 8% in April-September, to £939m, as increasing environmental legislation fed through to sales of higher-value catalytic converters in cars. This lead to a 10% jump in its shares on Thursday morning, following the news from its trading update.
But more recently, the Volkswagen emissions scandal has put a huge dent in European new car sales, and a prolonged resolution to the saga into next year could keep auto purchases on the backburner. Europe is the spiritual home of the diesel engine, providing a negative double-whammy to Johnson Matthey as its diesel technologies are the most profitable.
Meanwhile, the effect of low inflation and a rising US dollar, in combination with falling jewellery and industrial demand, also threatens to damage revenues at Johnson Matthey’s Precious Metal Products division.
Platinum has fallen back below $850 per ounce in recent days, its cheapest since late 2008, while sister metal palladium is within striking distance of the five-year troughs visited in August at $535. Johnson Matthey saw sales at its Precious Metal Products arm tank 15% in April-September, to £165m, although the disposal of its gold and silver divisions also hampered performance.
Against this backcloth the business is expected to see earnings edge 2% lower in 2015. On the one hand, rising long-term car demand, combined with anti-pollution measures the world over, should lend strength to Johnson Matthey’s earnings picture in the years ahead.
But with the future of the diesel engine coming under intense scrutiny, and both palladium and platinum suffering from chronic oversupply, the London business could see earnings remain under the cosh for a little while longer.
