E Deducing The Crash In Oil: How Would Sherlock Holmes Drill Beneath The Headlines?

Is oil right now the biggest threat to the overall market? 

On Monday, oil fell to the lowest level since March as traders worried about signs of weak demand and increasing supplies. Chevron (CVX) and Exxon Mobil (XOM)  were among the biggest decliners in the Dow Jones industrial average.

As much as we would like to think that our economy is on the mend, oil is clearly sending us a different message. Oil prices touched a four-month low. WTI posted the biggest monthly decline of 2015. For the month of July, U.S. crude lost 21%

On Friday  two of the biggest oil giants sent a very clear message to the stock market. Exxon reported its lowest profit since 2009. Chevron recorded its lowest profit in more than 12 years. On that news, the shares of both companies fell to their lowest levels in more than three years. Exxon cut share repurchases for the current quarter in half. There was nothing in their earnings reports even the most stalwart of bulls could find to like.             

Perhaps the single greatest risk we face as investors is holding onto beliefs long after the thesis has changed.  We are reluctant to recognize changes when they don't fit our thesis. We are reluctant to admit  when we are wrong. To learn from it and move on. But as Holmes would say,

“The greatest sign of an ill-regulated mind is to believe things because you wish them to be so.”

“I have steadily endeavored to keep my mind free so as to give up any hypothesis, however much beloved, as soon as facts are shown to be opposed to it."

And with that thought in mind, I present you with the facts concerning the oil sector right now.

Exxon Mobil cut its spending budget by $1.54 billion. The stock is off 22% from its high while oil prices have been cut in half. The stock has not found a bottom yet.  Chevron maintained its quarterly dividend at $1.07 per share in the second quarter, Exxon raised its dividend to 73 cents per share from 69 cents in the first quarter. Hopefully, they won't have to cut. How many IRAs and 401-ks in the US will this affect? People may be very surprised when they open next month's brokerage account summary.

Digging below the numbers, Sherlock might ask: How will the crash in oil affect the economy at large? Will it impact a lot of people? Will it impact a lot of jobs?  You can expect to hear of even more layoffs coming from Exxon and Chevron.

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Leslie Miriam 1 year ago Member's comment

Fun article, you should write more.

Currency Trader 5 years ago Member's comment

Not a good time to be a $XOM or $CVX shareholder.

Carol W 5 years ago Author's comment

well the charts today would agree..is the bottom in? perhaps..cheers and thanks for reading..

Dr. Duru 5 years ago Contributor's comment

I think the analysis should also take into account what happens to the savings consumers gather from the cheaper gasoline and other petroleum-based products. Even if they are not spending the money on other goods, they are likely using it to pay down debt. That alone can relieve a lot of stress for a lot of non-oil families. Let's see which effect is the bigger. I have an article coming out soon summarizing the amazing results of LGI Homes whose base is in Texas and saw crazy sales numbers in Houston.

The increase in rig count in Canada may not be so good if all it does is add supply to an over-supplied situation.

I am also surprised you didn't weave in the demand side. Could it be that the persistent weakness in oil prices is also revealing how weak the global economy is in general, in particular China? I believe oil demand in the U.S. is already on a secular decline...

But overall, I loved the article as usual. Great narration weaving Sherlock in there!

And now imagine what is going through the collective mind of the Federal Reserve. I think it would be unprecedented to start tightening policy in the face of such a collapse in prices in this large a part of the economy!

Carol W 5 years ago Author's comment

I don't think they're paying off their mortgage cause they saved 2 bucks at the pump. maybe an extra burger this week or an imported beer over domestic! cheers! look forward to your atricle LGI also does a lot of building in California no?

Dr. Duru 5 years ago Contributor's comment

LGIH post up: seekingalpha.com/.../3409056-a-breakout-performance-and-increased-guidance-send-lgi-homes-higher-as-texas-delivers. TPH is the regional with a lot of building in California. They are also undervalued.

Carol W 5 years ago Author's comment

thank DOC..you rock..good points...I could have gone on and on..cheers

Carol W 5 years ago Author's comment

And remember, any one who registers by leaving a thoughtful comment on TalkMarkets is automatically entered into their contest to win an iPad Air 2! More details here: http://www.talkmarkets.com/ipad-contest

Anastasija Janevska 5 years ago Member's comment

Nice article Carol W!

Carol W 5 years ago Author's comment

thank you so much Anastasija

Brett Fromme 5 years ago Member's comment

Great article as usual. I enjoy your writing style as much as the content.

Even though oil prices are dropping, why does US oil production stay firm and why have oil rig counts stopped falling? I think the answer is that the oil producers have huge debts to service and they need the revenue to make the interest payments.

If oil drops low enough, oil producers will start to miss payments, default on bonds. and be forced into bankruptcy. Only then will we see a temporary drop in oil production as assets move from the weak hands to the stronger hands.

But as you pointed out, this will be quite painful for the companies, their workers, the bond holders, the banks and the communities that feed off the oil industry.

I think the wildcard in all this is how well the financial system will be able to handle the bond defaults. In 2008 the defaults on bonds based on worthless sub-prime mortgages almost caused the entire financial system to collapse.

The question is, what is the magnitude of impending bond defaults from the failing oil companies? You state that it is 1 trillion in loans, and 50 billion in bonds or 14% of last year's total junk bond market through October. But what is the total size of the bonds and loans issued to oil companies at risk of default? Is it as great as the sub-prime debacle that nearly caused a systemic collapse? How can we even know the magnitude of the impending bond defaults when they have been repackaged and sold to bond funds? In addition,what is the magnitude of the derivatives that have been generated off of those junk bonds?

Could the US oil company implosion equal the magnitude of the 2008 sub-prime mortgage melt-down? This is where more digging needs to be done, and soon.



Leslie Miriam 1 year ago Member's comment

I agree!

Carol W 5 years ago Author's comment

thanks you your insights and compliments..have a great day

Alexa Graham 2 years ago Member's comment

I miss your work and your comments, Carol. Hope to see you again soon.

Wendell Brown 5 years ago Member's comment

I think Sherlock would be hesitant to use that one small clue as an indicator, but he certainly would file it away for future reference! It's a tiny blip in an otherwise downward slide but to mix metaphors and fictional characters ... 'curiouser and curiouser!" Thanks for all this info.

Carol W 5 years ago Author's comment

hahaha...thanks..cheers Carol