Did Oil Prices Hit Bottom, or is this a Dead Cat Bounce?

In yesterday’s post we looked at the price of oil from a historical perspective and discussed the factors leading to the steep decline over the past year.

So today let’s take a look at what might happen to the price of oil and gasoline in the future.

First a disclaimer… I’m not an energy industry analyst. I’m not a stock or commodity trader. And until a few weeks ago I’d never been terribly concerned with nor knowledgeable of the factors that influence short term changes in the price of oil or gasoline. If you think being an “expert” is important, just read this December 11, 2014 article from the Wall Street Journal: WSJ Survey: Oil Prices Are Near Their Bottom. The “experts” then predicted that the price of oil would not go any lower than $60/barrel, and would rise to around $65/barrel by the end of the year. Instead, prices continued to drop to around $45/barrel by mid-January, rebounding (at least for the moment) to $50.56/barrel today as this article goes to press.

So the experts were wrong. Dead wrong.

“Always listen to experts. They’ll tell you what can’t be done and why. Then do it!”– Robert A. Heinlein / The Notebook of Lazarus Long — Time Enough For Love

And in many ways, I think that the fact that I’m not an “expert” can be my greatest strength. It allows me to look at things with fresh eyes. What I am is… an experienced entrepreneur and a rocket scientist. One who is curious and who likes to look past the surface, and sort through the bullshit until things start making sense.

This is what the price of oil has looked like over the past year, peaking at around $100/barrel in June 2014, dropping down to around $45/barrel in January 2015,  and closing at $48.84/barrel this Wednesday:

One year oil price history as of February 11, 2015 via Nasdaq.com.
One year oil price history as of February 11, 2015 via Nasdaq.com.

 

The next meeting of OPEC is on June 5th, 2015, at which time it is possible that OPEC will decide to sacrifice market share to raise prices. But it seems to me to be fairly unlikely that OPEC will do that — low oil prices hurt Russia and Iran the most, both of whom the Saudis dislike.

Are low oil and gas prices good or bad? Well, as with many things in the world, it depends on your perspective. We will delve into this topic much deeper in the future, but the short answer is this… low oil prices are good in the short term for the consumers of oil products. In this article from January 13, 2015, the Washington Post estimates that overall Americans are spending more than $2 billion less a week on gas than this time last year.  That’s a huge savings going into the pockets of many Americans. Those with a big commute to work, for example, are saving a ton of money at the gas pump. Low oil prices also have direct positive benefit on businesses which use a lot of petroleum products… airlines and shipping and logistics businesses, for example. See also this December 1, 2014 article from the Wall Street Journal: Lower Gas Prices: How Big a Boost for the Economy?

Low petroleum prices are bad for many of those who work in the oil and gas industry, and those who live in areas focused on the petroleum industry… as the price of oil drops, many will lose their jobs as some types of production become uneconomical. As the dominoes fall, real estate prices go into decline, banks can fail, etc.  Low prices are particularly bad for countries like Russia and Venezuela, which are large net exporters and heavily depend on oil to fund their economic growth.

But there is another, much more subtle way in which low prices cause the dominoes to fall in a way that is bad… really bad. Oil is a scarce resource and we are using it up. Over a time span of decades, it is inevitable that prices will rise as supply becomes exhausted and the costs of reaching reserves become higher and higher. We are pretty much gonna run out someday, and that someday might come within our children’s lifetimes. Low oil prices today encourage consumption, which in turn hastens the eventual depletion of our reserves.

This is compounded because low oil prices make the development of many alternative fuel sources uneconomical. Investment in clean and alternative fuel sources will slow or stop while oil prices are low. So not only will our supplies be depleted sooner because of the low prices, but also we will be less prepared to cope with the situation because we will have invested less in developing alternative fuel sources.

But the situation is even worse than that… Low oil prices encourage faster use of petroleum products, which in turn increases pollutants added to our atmosphere and increases emissions that accelerate global warming. And the effects of global warming are likely going to increase energy consumption even further over time. It is a runaway domino effect.

If the price of oil stays in the $50/barrel range through June and then recovers, then I think that the carnage in terms of job loss in North America will likely be fairly limited to those working directly in the oil industry. Here in Houston, tens of thousands of jobs will be (and already have been) lost, but the economy is otherwise strong, and as the price of oil recovers hiring will resume. Growth will slow or stop for a while, but we won’t likely see a recession.

If the price of oil stays in the $50/barrel range past mid-2015 (which I think is quite possible), or if it heads down much lower than $40/barrel (which I think is also possible but less likely), then the problem worsens significantly. Not only will more oil industry jobs be lost, but also we will likely see increasing signs of recession. Here in Houston the repercussions will trickle down to a wide variety of individuals and businesses who depend on the spending of those working in the oil and gas industry. Real estate prices may well dive, restaurants will take a big hit, bankruptcies will increase, mergers within the oil and gas industry will increase, and banks will see lower deposits along with defaults on loan repayments. And that’s just the beginning.

As was noted in yesterday’s article, the significant oil price drop of the past year is fundamentally different than the one that occurred in 2008 in one key way. When the 2008 price drop occurred, oil prices had been above $80/barrel for only about a year. When the 2014 price drop occurred, oil prices had been near or above $80/barrel for around 4 1/2 years. Because the industry grew for a much longer time period under the economic umbrella of $80+/barrel oil, if the current price decline is long-lived, then the number of employees finding that their jobs are no longer economically viable today will be vastly greater than in 2008.

As to specifically what is going to happen to the price of oil over the very short term, such as the next few days, I haven’t a fracking clue. But I do think it is unlikely that we will see any kind of a strong recovery very soon. We may have hit bottom last month at $45 per barrel. But perhaps, given that U.S. crude oil inventories are at the highest level for this time of year in at least the last 80 years, it is more likely that the current recovery up to $49/barrel may be  part of what is known in investment circles as a Dead Cat Bounce.

And what is a Dead Cat Bounce, you might ask? I certainly did!

Dead Cat Bounce is a term used to describe a temporary partial recovery from a prolonged decline in the price of a security or a commodity, followed by the continuation of the downtrend. It is based on the somewhat silly and morbid axiom: “Even a dead cat will bounce if you drop it from a great height.”

dead-cat-bounce
Graphic via weebly.com.

So now you know!

So that you can make your own assessment, I’ve included links to recent articles that provide reasoning supporting both the viewpoint that we have hit bottom as well as supporting the notion that oil prices still could plunge lower. Check out these articles and come to your own decision… and feel free to leave a comment below with your opinion:

Oilprice.com, February 11, 2015: IEA Sees Oil Prices Bottoming Out, But Not Surging Back To $100-Plus Levels

U.S. Energy Information Administration, February 3, 2015: Increase in average gasoline prices ends 17-week streak of declining prices

Oilprice.com, February 5, 2015: Why Oil Won’t Go Below $40

CNBC, February 3, 2015: Oil expert: This is a ‘dead cat bounce’

Houston Business Journal, February 3, 2015: BP CEO on oil slump: We’ve seen this movie before

Business Insider, February 2, 3015: Four reasons why any oil rallies won’t last

Business Insider, February 9, 2015: CITI: Here comes $20 oil …

The Barrel – Platts.com, February 10, 2015: As oil prices push towards $60/b, are we witnessing a “dead cat bounce”, or is the market finding some equilibrium?

DOminoes are activists. Their first name is DO. I could use just a little help from my friends to enable The Domino Principle to gain sufficient critical mass to become more successful and useful. Our readers, like you, are influencers, and YOU can DO something quick and easy that would use your influence to help us out. Below each article we publish on The Domino Principle blog (like this one), you’ll see buttons to share the article on social media. Please use these buttons to share our articles, especially the option to share our articles with your friends on Facebook. It will really help spread the word of what we are trying to accomplish!

–Cliff

P.S. Dead Cat Bounce is also the name of an Irish comedy band made up of Demian Fox (drums), Shane O’Brien (bass) and James Walmsley (guitar and lead vocals). Based in Dublin, but touring all over the world, the group perform all-original comedy songs in variety of musical styles. Check em out!

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Cliff Kurtzman

Described as "pragmatically reckless with a high tolerance for ambiguity," Dr. Cliff Kurtzman is the founder of The Domino Principle. He is also an award winning entrepreneur, speaker, trend forecaster, and M.I.T.-trained rocket-scientist. Over the past 25 years, Cliff has launched several highly successful ventures by seeing technology trends in the world before they became widely realized, figuring out how they would impact our lives and then creating businesses that leveraged those trends ahead of many others. His bio is at http://www.kurtzman.biz.
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One thought on “Did Oil Prices Hit Bottom, or is this a Dead Cat Bounce?”

  1. Really interesting new article at http://marketanthropology.tumblr.com/post/110910160366/sizing-up-the-next-big-moves-in-the-market that states:

    “Like any major move, the crash in crude oil was propelled by more than just one catalyst. Speculative positioning, production, demand – they all played a supporting role. And although the circumstances that led to its precipitous decline can be reverse engineered and neatly framed to lay at the feet of a more conspiratorial and geopolitical commiserator, such as the Saudis – the reality is the currency markets likely played the commanding part over the past year and were instigated by conditions that set sail long before the Saudi’s could even look to turn the screws.”

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