U or V?
It's pretty much the buzz of the day for oil, and I have to tell you that I think the U camp makes the most sense, even as we see one more spike still this very morning in the oil futures.
Lately we have been hearing a lot of rumblings every time oil spikes as it did on Friday's close and as we will hear in this morning's commentary because of the early lift in pricing, that we are experiencing the beginning of the V-shaped rally in oil that so many think can happen. You know that the inability of the large oil stocks to take out their Dec. 15 lows when oil was $12 higher heartens the bulls.
If so many of the majors have reported negative numbers and the stocks haven't cratered, then anyone who thinks we aren't going all V is standing in the face of what the stocks are telling us. We will get another test today, with a huge downgrade of Royal Dutch (RDS.A) by Morgan Stanley BECAUSE it isn't cutting back spending enough. If that stock doesn't take out $60.67, its low from the beginning of the year, I think we will, once again, believe that the decline is over.
I beg to disagree.
I think the market is reacting to the relatively sanguine reports of the well-capitalized majors and not to the possibility of major losses and defaults of the minor players. Even as their departure will be long-term positive, I believe each will cause a negative ripple in the entire group.
Plus, if oil stays down here, the cash flow for some of the majors will dwindle and their coverage may not sustain their dividends. Anyone looking at the bedraggled stocks of Transocean (RIG), SeaDrill (SDRL) and Ensco (ESV) -- the latter has put up terrific numbers -- knows the rollovers can be severe.
Now a number of people have pointed out that gasoline use is up, according to the EIA. This judgment is directly contrary to the words from Visa (V) and MasterCard (MA) on their calls last week and, unless you believe that the all-cash motorists are driving with reckless abandon, you don't have a real good case.
Still, others have talked about the vast decline in the rig count, without thinking about how many wells have been drilled before the collapse and how those wells won't be capped. The cost of a maintaining a well vs. its return is ridiculously low.
Others have pointed out that the exploration budgets are being cut severely. But have you seen one oil company claim that its production will go down in 2015? Read the fine print. They all will be up. All of them. That's because each oil company tends to have some patches where drilling has a decent return on investment, even at $45, despite the fact that, in aggregate, their properties might be loss-making. Further, the cost of drilling a well has dropped precipitously from about the high $20,000s per day down to about $20,000 flat, which increases the rate of return on some more marginal properties.
And, of course, there's the demand side. You saw the Chinese manufacturing PMI. It is still in deceleration. While the Baltic Dry Freight index measures bulk commodities, it's pretty clear that there's a collapse of transport and I have to believe that can extend to oil.
Europe? Well, Europe's not picking up yet. Sure there are some green shoots. But the relation of lower oil to the pockets of the consumer are less direct that in our country and far less than in some of the more fast-growing Asian countries like Taiwan and Korea.
Meanwhile, the less stable -- or totally unstable -- countries, Venezuela, Libya, Iraq, Iran and Russia, are pumping out oil in record amounts.
All of these supply and demand puts and takes lead to one conclusion: a U-shaped recovery is far more likely than a V-shaped recovery even as people as knowledgeable as David Demshur, the CEO of Core Labs (CLB), which is the best measurer of drilling service companies, says that oil will be about double this time next year and we are in a V-shaped-recovery mode already like 2008-2009.
Given that we are in sell stock/sell oil mode until later this year when Visa CEO Charlie Scharf says the accumulated wealth from pump savings will finally boost spending, a U is not what the market wants. It's only what the consumer wants.
Right now that means lower prices for stocks. Later it means higher prices, but I fear that the market will be in U mode, too.
