Oil Prices And Producers Trapped In Limbo

Crude oil has hovered near $60 a barrel since May, a useless price for investors. This uneasy equilibrium needs to be broken before any good can be done trading in the energy space. My thoughts have been that oil must drop back down towards the lows established earlier this year, but indeed, oil has shown amazing resilience to the fundamentals driving it down. But until it moves decisively one way or the other, there’s nothing worth trading.

Oil has seemed to have plenty of reasons to drop back towards $50 a barrel, since rallying from lows in the $40’s in March. Despite the large drop in Capex among the US E+P’s and the laying down of more than a thousand rigs, all projections for US oil production are still much higher than in 2014, in fact nearly 1.1 million barrels a day higher. The shale players, by concentrating on their core drill sites, have actually increased production in the short run. That has combined with a continued fight among OPEC members and particularly Saudi Arabia for market share and zero desire to put quota limits on OPEC production. Add that to the possibility of more Iranian oil and the oncoming production from Libya, and the worldwide glut in oil seems clearly destined to only get worse.

But financial players are still willing to bet on oil barrels. In the short term, demand has rebounded a bit because of low prices, some production seems to be dropping in small specific areas of the Bakken and China has shown an almost limitless appetite to take cheap barrels and store them. Everyone is inferring that the low price for oil cannot last – and they’re right – but their premature timing is only propping up what would otherwise be fundamentally very weak barrel prices.

So, together, the fundamentals of lower oil meet with the financial pressures to buy cheaply and have developed a strange, uneasy equilibrium in oil at around $60 – a ‘neither here, nor there’ price.

I say that because $60 per barrel is not enough to develop anything other than the most core holdings of acreage in US shale, isn’t enough to develop long-term large scale deep-water projects and makes Shell’s (RDS.A) second go-round in the Arctic another useless and expensive endeavor. But $60 is enough to keep marginal players capable of hanging on to life that much longer possible – and those fire sales, mergers and outright bankruptcies that have been expected and are needed to ‘clear’ the space haven’t come – yet.

Meanwhile, E+P stocks slowly melt away in price – now nearing numbers they saw when oil was almost $20 lower. This doesn’t make them a value worth buying, by the way, it only highlights the limbo that producers remain in as oil prices remain in limbo as well.

I believe that the fundamentals ultimately win out – the chart for oil looks like it is in a consolidating triangle formation, meaning a break is likely coming one way or the other.

And even though I think that move will be to the downside, it doesn’t mean there is any great actionable play to make here because of that. Oil always has optionality to the upside.

For now, keep your powder dry and relax – there’ll be opportunity to make good trades again. But that time isn’t now.