The Outlook on the Volatility of Oil for 2015

The outlook for 2015 seems to be one in which we have already seen signs of increasing volatility.  The combination of the drop in oil prices in the previous six month, combined with the strengthening of the U.S. dollar offers traders who are bold enough to short weak oil securities some time to take advantage of the situation.  The fact that Saudi Arabia re-established the price on what the price of oil should be, once at $60 per barrel and then calibrated down to $50 per barrel is a negative sign that either that (1) Saudi Arabia didn’t calculate the price correctly or (2) that the oil industry is worse off than expected.  Either way, the recent activity in mispricing alerts traders to short relatively weaker oil stocks who earnings who seem to have more bad news on their next earnings release.

At the head of Astenbeck Capital Management, Andy Hall states that crude oil could drop to as low as 40 per barrel in the first half of 2015 and agrees with other multiple forecasts that oil will start to gather itself and recover in the second half of the year.

Adam Glinsman, managing partner at Cantab Capital Partners, has observed that the macro-economy “appears to be presenting a host of definable trends with significant dispersion across all the major asset classes.”

Perhaps there is a positive correlation between oil companies and the companies that acquires and helps to develop oil and natural gas properties.  In the Appalachian Basin, the independent exploration and production company known as Eclipse Recourses Corporation (ECR) has been one of the “smaller stocks” to have taken a beating in the last six months, although there have been moments of sporadic minor rebounding from the stock price, carried by the oil industry in general.

It’s imperative to reflect on what are some related firms that rely on oil who are relatively more predictable.  For example, Caterpillar (CAT), who manufacturers and sells diesel and natural gas engines as well as other types of mining equipment, shows that Return on Assets (ROA) has a slight decrease:

Return on Assets

ROA	13	12	11
	0.04	0.06	0.06

The ROA is measure of a firm’s success in utilizing assets to generate earnings that are independent of the finance of those assets.  As we see, there isn’t a large shift in the ratios, but for a large company such as CAT, there is a decrease from 2012 to 2013 in the ROA, which also eliminates any positive news in how the firm is taking care of its assets.

Capital Structure Leverage

CSL	13	12	11
	4.42	5.60	3.29

The Capital Structure Leverage ratio measures the degree to which a firm utilizes financial leverage to finance its assets.  As for CAT, the 2013 drop is also congruent with the decrease in the firm’s ROA.  Caterpillar should look to actively seek out more ways to cut costs since the firm is certainly past its PLC growth phase.  However, this could also be a possible positive indicator that the firm is indeed cutting costs to wait for the oil industry’s volatility to stabilize.

As of now, it’s imperative that investors keep in mind that even though volatility is present when observing the financial markets day-to-day, it helps to create and retain some mental charts of changes from week-to-week.  It’s one thing to look at charts and another to keep track of what the quarterly or annual curves are.  This will help lower emotions and to continue to stay aggressive in seeking out shorting opportunities that are present in the oil industry or to long a stock that offers potential in changes in the second-half of 2015 or before if forecasts from analysts are wrong (again).

References

Wainewright, Will.  "Managers See Rising USD, Bottoming Oil Prices in 2015” (2015).  Retrieved from Bloomberg Terminal (Bloomberg Briefs)

finance.yahoo.com

marketwatch.com (for 2011 and 2010 data on CAT)