Crude Oil: How Low Is Too Low?

10/22/2014 12:01 am EST

Focus: COMMODITIES

Jim Jubak

Founder and Editor, JubakPicks.com

The recent sharp drop in crude oil has gotten the attention of investors and MoneyShow's Jim Jubak looks at the impact it may have on individual companies as well as countries

Okay, oil. Oil has been plunging like, well, like a barrel of oil going off a cliff with Wile E. Coyote. Two things we need to separate out here. One, there is the worry in the market, the downturn in the market that is caused by the actual drop in oil from $100 to $95 to $90 and worries that we're going down to $86 or $85 or $80 so that's one set of worries. The other one is the problem with trying to figure, the worries that are generated by the fact that you can't figure out exactly what price level different companies get hurt, what happens.

It's very clear that we know that US oil production from tight shale is relatively expensive but we don't know who's hedged, we don't know whether the pain point is $80, that's probably too high, $60, that sounds like about right, $40, they're probably too low, but, somewhere in there, you've got companies start to feel pain and that might lead them to stop drilling.

Looking at balance sheets, you don't know exactly who's going to start hurting and you get some asset sales and you don't know how this affects other companies so you've had solar stocks, for example, selling off because the theory is that with oil and natural gas lower that makes competition with solar tougher.

You've had a lot of selloff in the rig companies, both land-based and sea-based. Sea-based seems like a good bet to go down because you're seeing the big companies that do this pull back on capital spending. Land-based rig and rig equities, you sort of go, well, you know, if you're a hard pressed shale oil producer, you've got to keep drilling because that's the only way you can keep your debt funded, so it's not clear what gets hurt here and I think that's adding to this uncertainty in the market and, therefore, sending prices for these stocks down further because you really can't tell at what point the pain really sets in.

The one big exception to that is national budgets. We know that, for example, Mexico at $85 gets really enough revenue from PEMEX to keep his budget funded. He gets about 40% of its national budget from the Mexican oil company. You've got the same problems in Saudi Arabia and Russia so you know sort of a sense that those countries are hurting because oil is not enough to keep them funded and you know you've got a good sense of where that is, you can actually do the calculation. Saudi Arabia around maybe $95, Russia probably like $105, $198, something like that, Mexico probably at $85, so you know these are places where you're going to see some budget cuts if we don't get oil moving up but, also, some of these prices are hedged, Mexico has a lot of hedges, so you don't know, again, exactly what's going to get hurt at what price level and that makes it all really uncertain. That's the two things that are weighing on oil prices and oil stocks right now.

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