The oil price has been falling since June, when a barrel of Brent crude hit hit $116. Today, it trades at around $103. It could go lower.
Some analysts believe it could hit $90 or $80 a barrel, as supply grows, largely due to the US shale oil and gas revolution, and extra capacity from Libya.
I’m not so convinced. If the US recovery continues apace, and Mario Draghi at the European Central Bank escapes German shackles to unleash QE, the balance could quickly shift.
We are one geopolitical shock away from a sentiment change and surge in the oil price. If you’re thinking on the same lines, now could be the time to buy BP (LSE: BP) (NYSE: BP.US) and Royal Dutch Shell (LSE: RDSB) (NYSE: RDS-B.US).
Vertically Challenged
As large, vertically integrated oil majors, BP and Shell are more than just a play on the price of black gold. Yet both should still benefit if the price rises, which it may, if Iran’s petroleum minister is right.
Bijan Namdar Zanganeh has just warned that the “the downward crude oil price will not live long due to seasonal fluctuations”.
Before that, Khalid al-Falih, chief executive of Saudi Aramco, said prices would have to remain around current levels to sustain enough investment to meet future demand.
Iran and Saudi Arabia hold the two largest reserves in OPEC, and both have powerful political reasons to maintain a high oil price.
Saudi calculate its budgets with oil at $92 a barrel. Iran needs $136 about to cover expenditure. Russia needs around $90.
They don’t just expect the oil price to stay high. They need it to stay high.
More, Please!
Oil prices are currently too low for most OPEC countries to cover their growing social spending and ambitious infrastructure plans, according to a new Reuters survey.
Algeria, Iraq, Ecuador, Libya, Nigeria and Venezuela need an oil price of $111 or more.
The Gulf countries are likely to trim production if oil gets much cheaper from here. On the other hand, plenty of geopolitical risks could push the price higher again.
Markets have so far shrugged off the threat from the Islamic State in Iraq, Islamists in Libya, and Vladimir Putin’s increasingly confident manoeuvrings in the Ukraine.
Commerzbank recently warned that investors are ignoring these risks, that could shut off supplies overnight. “While several international crises stand in the way of a further decline, market participants are missing good arguments for higher prices,” it said.
Big Oil
The longer-term case for a strong oil price is still there, despite growing energy efficiency, and the growing challenge from renewables.
Emerging markets may have slowed, but the underlying story of growing middle-class consumption isn’t going away. Energy intensity in Asia is far higher than in the West.
High decline rates in shale oil fields could spring a supply shock.
The oil age still has a long way to run.
BP Or Not BP?
BP has had its share of troubles. We still don’t know it’s full exposure to the Gulf of Mexico oil spill, and it is exposed to sanctions against Russia, due to its tie-up with Rosneft.
But its strategy of becoming a smaller, tighter, more focused company seems right. It is financially strong, and committed to a progressive dividend, and there is potential for further growth from exploration and production.
Plus you can buy into a 4.6% yield at just 6.4 times earnings.
I’m Still Sure Of Shell
I tipped Shell in January, and it is up 12% since then, against around 1% for the FTSE 100. It has built a strong position in innovative technology, such as deep water, gas and unconventional hydrocarbons, and has a the world’s largest portfolio of liquified natural gas (LNG).
Shell also posted impressive Q2 earnings of $6.1bn, up from $4.6 bn year-on-year. At 15.9 times earnings, it is more expensive than BP, but then it has fewer issues. The yield is 4.3%.
Nobody knows for sure where the oil price is headed. But recent falls could make now a good time to top up on these two oil majors.
