BP Plc And The Big Questions Around Oil Prices In 2016

BP (LSE: BP) shares fell significantly during 2015 as oil prices weakened further, while the threat of further litigation costs stemming from the 2010 Deepwater Horizon incident continues to hang in the air even now.

Investors could be forgiven for wondering just what 2016 is likely to have in store for them and whether it’s an opportunity for a fresh start. I don’t have a crystal ball. However, I’m happy to toss some thoughts into the air for those who remain unsure.

The oil price question

Oil price forecasts vary wildly, more so than ever before. The average forecast obtained by Reuters from a poll of 31 analysts in December points toward $57 per barrel in 2016.

However, this reflects the centre ground with some analysts predicting a price rebound above $65 to $70, while a lesser number are projecting that prices rise more modestly, stand pat or fall further.

Given the financial community’s track record on oil prices, the jury remains out on exactly what investors should really be doing with this round of forecasts.

US lifts crude export ban

In addition to the first interest rate hike for nearly a decade, December also saw the US Congress pass a funding bill that would allow for the 40-year ban on US exports of crude oil to be lifted.

So far, this has led to the WTI/Brent spread narrowing from a few dollars to a few cents. The longer-term effects remain difficult to predict.

It could provide a lifeline to US shale producers by allowing them to increase production, while not necessarily impacting upon saturation of the market for WTI to the extent that it would have.

But repealing the ban doesn’t do anything to boost global prices. As such, it seems like the self-perpetuating cycle of 2015 (higher volumes to offset lower prices, leading to even lower prices) should continue for at least the foreseeable future.

The dividend question

We saw in December that even after repeated statements to the contrary from many observers, dividends have been getting much less secure in the commodities space. This is of course a reference to Anglo American’s sudden addition to a growing list of commodity producers that have bitten the dividend bullet in the name of ‘safeguarding the future’.

I’m wondering how much longer it will be before BP ditches or ‘rebases’ its dividend as well.

After all, oil price weakness remains unrelenting, while consensus projections for earnings and dividends suggest it will continue to pay out more to shareholders than it earns from operations across the forecast horizon.

If the projection evolves into reality then BP would be placing a bold bet on the future direction of oil prices. One I find hard to believe management would actually take.

Summing up

There are many reasons to expect that oil prices could remain low or fall further during the months ahead.

Regardless of whether crude stands pat, falls further, or maybe even recovers slightly, management at BP faces an unenviable choice in my view.

Much of the low-hanging fruit has already been picked when it comes to costs. In 2016 they’ll have to decide whether to cut capex to the bone in order to fund the dividend, or whether they’ll cut the dividend in order to fund capex and thereby, the future of the business.

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James Skinner has no position in any shares mentioned. The Motley Fool UK has no position in any of the shares mentioned. We Fools don't all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors.