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Oil sector shows signs of strength and stability

National Oilwell Varco
Oil Resumes Decline Near $30 as U.S. Supplies Worsen Global Glut

The first-quarter results posted this week from the oil sector are showing some signs of improvement and will come as a long overdue boost for weary long-term shareholders.

Earnings reports from BP, Statoil and Total all beat analysts’ expectations – however, it should be noted that these forecasts were at depressed levels following the 75% collapse in oil prices over the past eighteen months.

Furthermore, when compared to the same period last year drops in profit of 80%, 70% and 40% for BP, Statoil and Total respectively highlight the ongoing problems faced by these firms whilst the slump in persists.

Further evidence of the challenging trading environment of late comes from Petrochina posting a first-ever quarterly loss and ConocoPhillips reporting a net loss of $1.5 billion, compared to a profit of $272 million in the first quarter last year.

Petrochina, the biggest oil and gas producer in China, is expected to see a fall in output for the first time in 17 years in 2016 and whilst this is obviously a blow to the business, it reveals a economic truth that should sow the seeds for a sustained recovery in price.

Simply put whilst crude remains at these levels, it becomes less profitable – or in many cases unprofitable – to continue pumping and as firms adapt to the new landscape by reigning in production, this drop in supply should be supportive of price over time as the demand/supply equilibrium rebalances.

This phenomenon may already be occurring if we look at the substantial decline in the US Baker Hughes rig count over the past year, which could show the first signs of a drop in supply in the not too distant future.

It almost goes without saying that the fate of these companies is inextricably linked to the price of oil and whilst some hedging activity has softened the blow of the recent decline, the fact that European benchmark Brent averaged $34 a barrel in the quarter versus $54 in Q1 2015 illustrates the challenges faced by these firms so far this year.

As we move into the second quarter with Brent trading above $47 a barrel for the first time since early November 2015, the chances that we’ll see prices below $30 a barrel seem to be receding, despite several persistent fundamental factors.

The failure to agree on a production freeze during a recent meeting in Doha between OPEC and non-OPEC members saw a sharp move lower in the immediate aftermath, but the impressive reaction which saw the market move higher in the following days possibly reveals an underlying strength to the market at present that has been absent for some time.

Looking ahead, the bi-annual OPEC meeting scheduled for the 2nd June will occur before the end of the quarter, and hopes are building once more that an agreement in Austria can be reached after the failure to strike a deal in Doha.

David Cheetham, is a market analyst at XTB.com

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