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Oil’s Pain is Europe’s Gain

MEXICO CITY, Mexico — Here in Mexico’s capital I can see how the dramatic collapse in oil prices may have a more permanent effect on consumer spending than many analysts see—and this should boost our consumer-related income investments in Europe.

I’ve found the country’s national obsession today isn’t fútbol. The subject has pervaded my daily life since I arrived a week ago, whether on morning radio, at a cocktail party or at a formal dinner, is oil.  Given Mexico’s heavy economic dependence on black gold, this wasn’t a surprise. But what was a surprise is that many analysts in Mexico believed that oil prices could be low for a decade or more.  

And given how much Mexico’s economy could be hurt by this forecast, I found it more genuine than the same cast of oil drillers being interviewed on Bloomberg TV that have been forecasting that $100 per barrel oil is just a few months away. 

I’ve met various oil analysts’ contacts in Mexico that believed the world was returning to a time when oil prices stayed low for multi-year stretches—such as during the 1980s. One analyst showed me a historical oil price graph going back to the 1950s that seemed to clearly support the idea that $100+ price per barrel of oil had been an aberration.

In fact, Columbia University’s Jason Bordoff, an energy policy expert, recently told the BBC that this may be the end of the “supercycle” of commodity prices, and that we may be in for an extended period of low oil prices.  Bordoff says that since the 1970s we’ve “been in an era of relatively tight supplies (controlled mostly by OPEC) and generally rising prices.” But those factors are “starting to be reversed,” he said.

Bordoff, according to the BBC, cited three factors that will keep pressure on prices:

1) Sluggish growth in both emerging and developed economies that is reducing the demand.

2) New technologies, such as fracking, that make previously shuttered oil fields again productive that adds supply.

3) Continued incremental improvement in alternative sources of energy, like wind and solar.

Trend is Your Friend

The many oil forecasters I knew in my previous career in the energy industry have all consistently given me one piece of advice when it comes to oil price forecasting: “you will likely be wrong more often than not.

The key is to spot the overall trend, they said.

And we at Global Income Edge do see a trend: demand for consumer staples seems to be headed north.  And even if a modest rise in oil prices would occur it would continue to bolster consumer staples and some consumer discretionary stocks in Europe.

Meanwhile, I had predicted last year that consumer spending would increase as a result of the fall in oil prices, but it has taken a little longer to happen than anyone expected.

The reason is that historically consumers don’t spend the extra money unless they believe it’s a permanent trend. And early this year, most were still saving the gains from the low prices at the pump.

But when comparing the S&P 500 Consumer Discretionary Index and the Consumer Staples Index to the New York Mercantile Exchange historical oil spot indexes, it’s clear that by the middle of this year consumers had begun to view low oil prices as a permanent trend and both consumer indexes have been on an upward trend, which represents an investment opportunity.    

As Oil falls, Consumer Indexes Pick-Up

oil chart

 

 

 

Going into 2016, we believe Europe is poised for higher growth based on improving fundamentals, currency advantages and a major effort by the central bank.

In fact, according to a report by the BBC, a 10% fall in oil prices should lead to a 0.1% increase in economic output in Europe. And oil prices are down by more than 60% since 2014, so we’ll view with interest how this translates into economic output.

 


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