Energy sector poised for revival

Most experts would agree that the US economy is out of danger, if not on the road to recovery. From 2013-2014 we saw the broad market move upwards due to the easy money policies of the Federal Reserve. Now with the market recovering well, most believe that the Fed will start raising interest rates mid-2015 and the market has responded accordingly. We must recognize that investment in the stock market must be done much more strategically because this year—every sector will behave differently. The sector that has suffered the most severely in the past 12 months and consequently most poised for a rebound is the energy sector.

The energy sector consists of all players in the various sectors of crude oil, solar, wind and water. As more than 60% of this sector is dominated by crude oil related companies, our analyses refer to energy and oil interchangeably. It won’t come as a surprise that gas prices are and have been going down for the past 12 months. This is because the price per barrel of oil has gone from around $95 per barrel in January 2014 to $60 per barrel in one year—a 37% drop! It is a common adage in investing circles to “buy low-sell high”—the art is in recognizing when the bottom is. To put things in perspective at the height of the last market peak in September 2007, Brent Crude (a major oil price index) was at $76 per barrel. Based on market and historical behavior, energy is poised for a revival—it’s just a matter of time…

The Organization of Petroleum Exporting Countries (OPEC) draws significant political and economic influence from the fact that the hegemony controls the majority of the world’s oil supply. The oil prices recent downward movement suggests that OPEC is allowing a much larger supply of oil into the world market. The prevailing (yet unproven) theory is that the US established a backdoor deal with OPEC countries to reduce oil prices in an indirect method to combat Russia’s aggressive political and military decisions in the last 18 months.

The theory conjectures that the United States doesn’t want to directly engage Russia in its latest moves into Ukraine and has indirectly placed sanctions on the nation (oil being Russia’s #1 export). With oil prices severely depressed, Russia’s already failing economy is put under further pressure as it receives significantly less for its exports. It remains to be seen whether this theory is just pure speculation, coincidence, or the truth. All this being said, the energy sector is poised for a revival. While increased supply from OPEC is temporarily lowering prices, there are both supply and demand effects that will eventually raise prices.

First, with oil prices lower, oil production is going to reduce. Oil drillers are receiving less for the oil they sell so they will adjust by drilling less till it rebounds. Less oil means higher prices, which will lead to more oil production. As such oil prices continue to move up and down in cycles. As it is currently in the trough of a cycle, it is expected that eventually it will rise up again.

The second effect at play in this discussion is the consumer demand aspect of oil (through gas for cars etc.). With gas prices down, individuals like you and me are more likely to buy and use gas... As individuals are more likely to consume gas, demand on oil increases leading to a rise in its price. (www.indiacurrents.com)

By Rahul Varshneya