Goldman Sachs was out with some interesting oil commentary Thursday, saying oil at $35 a barrel is an ideal price area and makes some U.S.-based exploration and production companies compelling buys. That includes some of the stocks found in exchange traded funds, such as the SPDR S&P Oil & Gas Exploration & Production ETF (NYSEArca: XOP).
Confirming its volatility and sensitivity to oil prices, XOP is down 42% over the past year, but the ETF is higher by more than 5% over the past month. There are reasons for investors to be cautious with volatile energy ETFs. Moreover, if oil prices falls to new lows and the shale industry is unable to turn a profit, the highly leveraged industry may find it harder to repay debt obligations.
Investors remain apprehensive concerning the veracity of oil’s recent rally, a fact confirmed by the recent pullback in futures-based oil exchange traded products. Output remains another source of concern for energy investors and the issue is twofold.
First, there has been little in the way of significant output reductions from the world’s major oil-producing nations. Second, even if dramatic output reductions arrive, some energy market observers see the impact as being negligible for energy equities and ETFs.
“While prices of crude at that level are above cash costs of production, they will deter a rebound in shale output from occurring too early, the bank’s New York-based analysts including Brian Singer said in a report dated April 6. Oil at $30 to $35 a barrel should keep the behavior of U.S. companies unchanged and help lift West Texas Intermediate to $55 to $60 a barrel in 2017, according to Goldman,” reports Sharon Cho for Bloomberg.
The energy sector could deliver an operating EPS loss over Q1 for the first time this century. While crude oil prices plunged over the past year, energy producers still managed to eke out positive gains in prior quarters. Stovall attributes the worsening conditions in the energy space to the lower spread between Brent and WTI oil, which hurts refiners and companies with downstream operations, and belt-tightening from producers, which puts more pressure on oil services and drillers to slash costs.
“U.S. production may drop by 725,000 barrels a day in 2016, implying a monthly reduction of 85,000 barrels a day for the rest of the year, according to Goldman. Daily output was at 9 million barrels as of early April, data from the Energy Information Administration show,” according to Bloomberg.
SPDR S&P Oil & Gas Exploration & Production ETF
The opinions and forecasts expressed herein are solely those of Tom Lydon, and may not actually come to pass. Information on this site should not be used or construed as an offer to sell, a solicitation of an offer to buy, or a recommendation for any product.