Crude oil has been battered along with other commodities this year, and energy equities too. But analysts think oil is a special case.
The front-month Brent contract is down 16 per cent from a high of more than $128 a barrel at the beginning of March. It is trading at about $106, in part pushed down by wider market fears over the eurozone crisis.
That has affected stocks. The MSCI World Energy Index is down about 10 per cent since the start of the year. Analysts believe it could fall further if oil dips below $100 a barrel.
But equity markets are already discounting a much lower oil price of about $70 a barrel, according to one estimate. That has especially weighed on exploration and production companies, some of which are trading at well below the net asset value of their oil reserves.
“From that perspective, we think those equities always had significant value, and the valuation gap has only got larger over the last couple of months,” says Will Riley, co-manager of the Guinness Global Energy Fund. He admits that “timing an entry point is always a very difficult thing”.
Underlying this valuation gap is an assumption that crude has much further to fall.
“It’s hard to be bullish about crude when there’s so much macro uncertainty in the eurozone and concern about where China’s heading,” said one energy fund manager. But that has created opportunities for investors, he says. “There are very good stories in the exploration potential of some of the E&Ps, especially in places like east Africa,” he says.
While analysts are bearish about the short-term direction of oil prices, the consensus is that they will inevitably trend higher in the long term, with implications for oil stocks.
“I don’t think the supercycle in oil has finished,” says Peter Hutton, an oil analyst at RBC Capital Markets. “We’ve been in a steady upward trend since the back end of 2008.”
A crucial factor is Opec, the producers’ group, which will always curb output if prices fall too sharply. When crude rose to nearly $150 a barrel in 2008, before tumbling to nearly $30, Opec cut production by 4m barrels a day. That was enough to bring the oil price back above $70 by 2009. And Ali Naimi, Saudi Arabia’s oil minister, said in January that he favoured a price of $100.
Oil equities will continue to be buffeted by fluctuations in the oil market. “But we encourage investors to distinguish between volatility and risk,” says Mr Riley.