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Last week we discussed the rise and rise of crude oil, and the factors that have contributed to the persistent upward push. However what is perhaps more important to us as investors is what all this means for the market.
In short it means a lot. Oil is the cornerstone of our modern economy and is related to nearly everything we do. Obviously airlines and transport companies feel the pinch of higher prices directly, but almost every other sector will in some way have to deal with higher energy prices.
Any company that requires transport of its goods and services will of course have to face higher costs, and this is being felt most keenly with food at present. This is fairly obvious when you consider the fact that nearly everything we eat has travelled hundreds of miles before it arrives on our plate.
Those companies that are most insulated from higher oil prices are those that don’t require transport services, such as financials and IT companies. However, they too are not entirely immune. The reason for this is that consumers all have to deal with higher oil prices, and again there are direct and indirect effects. The most obvious impact is with the fuel we use for our cars, and considering we have seen a doubling in oil prices over the past year, higher prices have really cut into consumer discretionary income.
Consumers also feel the impact through the higher prices of goods and services. When companies are faced with higher costs, depending on their margins and the competitive environment, they will often pass at least some of those costs onto the consumer in the form of higher prices. Again it is with food that this has been most evident.
So banks and IT stocks still feel the impact of higher oil prices due to the reduced spending capacity of consumers. In essence, higher oil prices really act like an interest rate rise and will tend to slow the entire economy.
There is of course one industry that really benefits from higher oil prices. Oil companies have had to deal with higher production costs in recent times, but the rise in price has more than off set this, and we are seeing most of the big names reporting record profit. When you consider that there is no viable alternative for oil at present, and that the global infrastructure is almost completely geared around the use of oil, the energy majors look like they will continue to do quite well for some time yet.
Although an alternative energy source that could completely replace oil is seemingly still some way off, alternate technologies are nonetheless attracting lots of attention. Previously, many of the alternatives were discounted because they were not economically viable. However with oil rising in price they are becoming more and more attractive. When oil was at $60 / barrel they simply couldn’t compete, but with oil at $140 / barrel it’s a different story.
Outside of energy technologies, we are seeing plenty of interest in companies that can provide goods that are much more energy efficient. Hybrid cars, energy efficient light bulbs, and efficient white goods are becoming more and more popular and companies that sell these items are likely to see a continued improvement in sales.
The take home message is that while persistent strength in oil prices is going to make things difficult for most companies, there are nevertheless plenty of opportunities for the savvy investor. Even if you exclude oil stocks, alternate energy stocks, and green stocks, the current climate is going to offer plenty of opportunities for the longer term contrarian investor. Plenty of stocks will lose value, and deservedly so, but as is so often the case on the market we could see sellers overreacting and this will offer a great opportunity for the more objective investor.
Try not to get too caught up in the hype and fear of the crowd. Life will go on and the economy will adapt and recover. Those that keep a cool head and take a broader perspective can really do well out of the current environment. Even from a shorter term trading perspective we are likely to see a lot of uncertainty, and hence volatility. And as you know, volatility is a trader’s best friend!
Until then, happy investing.
Andrew Page
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