Low Oil Prices Is The Solution For Low Oil Prices

A portion of the Canadian stock market decline can be attributed to the bursting of the commodities bubble and subsequent decline in commodity prices. The price for the oil benchmark West Texas Intermediate (WTI) declined by over 35% in 2015 to $35. Since Canadian oil typically trades at a discount to WTI, investments are being pared as newly drilled oil is not profitable at current prices. Employment in the energy sector is also affected. While any improvement in global GDP would aid the demand outlook, the real issue is oversupply. OPEC continues to pump at capacity and the North American shale revolution has resulted in a significant amount of new oil coming to market over the last few years. The lifting of the Iranian oil embargo in 2016 will further exacerbate the glut. It is unlikely that there will be a meaningful decline in the supply of oil through the end of 2016, even though the current environment lays the foundation for its recovery.

There is an old saying in the oil business that the solution to low oil prices is low oil prices. Low oil prices forces the oil supplied from high cost wells to be taken off the market. Evidence of this is showing up in the North American supply data as new drilling projects are being shelved as they are not profitable at current prices. This trend should continue through 2016 as hedges previously put in place to sell oil at higher prices roll off and producers are forced to sell at market prices. While the current depressed oil prices creates an environment that will ultimately lead to higher prices, this will take multiple quarters to play out and we are unlikely to see higher oil prices over the next six months.