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Wednesday, January 27, 2016

The Oil Seesaw

When it comes to oil, it is going to be like this for a while. That is, up and down, up and down. Yesterday the markets jumped because of oil, and today it looks like it will fall because of oil, and the day before that weren't we concerned again about oil—causing markets to fall? The entire start of the year's market woes have been due to excess inventories and low demand.

The question is, is oil something to be concerned about? For me the short answer is no.

While oil is at considerable lows, and is certainly much lower in price per barrel than the last time we saw the oil market devoured, the simple truth is that even if demand is low right now, oil is still in demand nonetheless, and will be for some time. Besides the fuel we put in our gas tanks, oil is of course a component of nearly everything we own.

I would be buying oil companies right now. Not dumping them. Some names I like? OAS, MRO, and the YYY. And by the way, the YYY pays out a hefty 9% yield, so it is definitely on the order of "get paid to wait."

Call it what you will, speculation or manipulation, or perhaps a little bit of both. This is in part what is driving the price of oil into the ground. Sure, as I mentioned, demand is down. But why? For starters we had a warmer winter this year and so less people needed oil, in those regions where it is common, to heat their homes. Despite record miles driven in the United States, cars are more fuel efficient than ever before, and the gap between newer more efficient, and older less efficient is widening. But it is not just the United States of course. Demand throughout the world has waned for a variety of reasons.

But, despite the natural forces driving oil prices down, let's not forget that the major oil producing countries are making the decision that they will not slow down production. So in a market where there is low demand and excess inventory, that just means there will be even more inventory built up, and that of course will cause the price per barrel to remain low.

In reality, I actually believe that lower oil prices currently helps to lift up the entire economy ultimately, and that's because oil is of course a large part of the household budget. You have to get to work and you have to get to the grocery store, and the more money it costs to get around the less money people have to spend elsewhere, and on other things. I think lower prices at the pump will actually have a significant impact on spending once we get around to spring and summer—although let's also be real. That's when some of the break will be over. Oil producers know that most of the miles driven are when it is nice outside, and so seeing oil prices, and ultimately gas prices spike during the summer especially is something I think we can all expect.

Even if gas prices rise slightly above the $2 mark, it is still much lower than prices we have seen in the recent past, and there will still be plenty of disposable cash to go around boosting sales to resorts, entertainment like the movies and restaurants, and of course retail. If we see continuing improvements to the labor participation rate and jobs this could be a double boost for the entire markets, making oil less of a factor to drive all of the other sectors down with it.

Oil is a seesaw right now. Fine. No problem. We have been down this road before. Oil will eventually stabilize and by that time those of us who knew this all along will have the fun of counting the gains on the way back up, having significantly lowered our cost basis beforehand.

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