Crude Oil Below $50: Has It Reached Bottom?

The New Year did not bring any positive tidings for energy investors. West Texas Intermediate WTI crude fell below the psychologically important $50 per barrel mark for the first time in over five years. Brent crude also followed suit and dropped below $54 per barrel.

WTI and Brent had witnessed similar declines in 2009 when global recession led to a weak demand. However, the current downfall of crude has resulted from an oversupplied market. Moreover, the strength of the dollar against other currencies makes oil dearer to importers, thus further contributing to the slump.

In the past year, the overall energy sector significantly underperformed the S&P 500, resulting in a decline of nearly 10% compared with growth of about 12.6% in the S&P 500.

The Supply Glut

Oil production continues to increase, especially in the U.S., as explorers benefit from the shale boom and technological advancements like fracking and horizontal drilling. The trend is similar in global markets, too. While oil production from Russia has reached post-Soviet records, oil export from Iraq attained a new high in December since 1980.

Moreover, with EIA, IEA and other energy forecasters predicting weaker demand in 2015, the supply glut may not find any immediate relief.

To counteract the falling crude price and maintain profitability, several upstream companies like ConocoPhillips COP, Marathon Oil Corp. MRO, Continental Resources, Inc. CLR have lowered their 2015 capital spending. However, the measure may not have any immediate effect on a market that is already massively oversupplied.

Saudi Pressure Continues

Saudi Arabia, the largest exporter in the apex body of the international cartel of oil producers – OPEC, or the Organization of the Petroleum Exporting Countries, continues to add pressure on the already weakened commodity.

In the environment of tumbling oil prices, it will be difficult for U.S. shale producers to garner sufficient earnings to stay afloat in the industry. This creates an opportunity for Saudi Arabia to expand its presence in the U.S. market through exports are at a cheaper rate. Keeping in line with this, Saudi Arabia has strategically lowered crude prices for U.S. while increasing it for the Asian market.

Saudi Aramco, the state oil firm, lowered crude's selling price to Northwest Europe by $1.50 for February, the fifth consecutive monthly cut. But for its Asia market, Aramco increased crude price for February by 60 cents a barrel.

Falling Estimates

Despite crude having fallen over 50% since Jun 2014, pricing woes seem far from over and any significant upside is still a distant hope. Recently, Citigroup lowered its 2015 WTI projection to $55 a barrel from $72 a barrel and Brent oil projection to $63 per barrel from $80. For 2016, the investment bank expects WTI and Brent to average at $62 and $70 barrel, compared with the earlier guidance of $75 and $85 respectively.

So, has crude found a bottom? It is a question that no one has a definite answer to. Earlier, analysts believed $50 to be an important benchmark. However, with yesterday's decline, the grounds have become shaky again. Oil is expected to fall further as breaching the psychological mark could trigger more selling from investors.

Stocks to Steer Clear Of

Considering the weak fundamentals of the broader energy sector, it would be better to avoid certain players like EXCO Resources Inc. XCO, Whiting Petroleum Corp. WLL, Noble Energy, Inc. NBL, Hercules Offshore, Inc. HERO, Weatherford International plc WFT, Enerplus Corp. ERF, Oceaneering International, Inc. OII, whose operations are directly dependent on crude prices. Moreover, declining stock prices and a Zacks Rank #4 (Sell) or #5 (Strong Sell) creates further negative sentiment for them.