Oil Prices Keep Dropping

Oil prices have hit a 13-year low, falling to about $26 per barrel. And with economic sanctions against Iran recently lifted, the country plans on increasing its oil production by 500,000 barrels a day, pumping even more oil into a supply chain that’s already oversupplied.

As an OPEC country, Iran’s margins are fairly high in its oil production. In an attempt to assuage investors, OPEC reassured them that oil prices would rebound later this year as non-OPEC countries will be forced to drop production as their lower margins get squeezed by rock-bottom prices.

And that may be true, although the timeline may be off.

“Each time oil hits a new benchmark low, oil companies start to look at their operations a little bit differently,” says Sean Heinroth, a principal in the energy practice at A.T. Kearney, a global management-consulting firm.

For example, there are about 1,000 fewer oil rigs in use in the United States than this time last year. Western oil companies are forced to cut costs to keep their margins from being swallowed up. Recently, BP announced a 4,000-person layoff, basically because it has no choice.

In a recent statement in which RBS economists told investors to “sell everything except high-quality bonds,” the bank’s analysts predicted that oil could fall as low as $16 a barrel. And investors are certainly bracing themselves for something like that to happen.

Effect on equities

Combined with worries about a recession in China, all the uncertainty in the oil market has had a terribly negative effect on global equity markets. Despite a 2% rebound on Tuesday, the DAX is down 11.82% on the year. Likewise, the FTSE 100 is down 7.76%, while the S&P 500 and Dow Jones Industrial Average are down 9.29% and 9.55%, respectively.

With little evidence that OPEC’s prediction of a rebound in oil prices this year will actually happen, it’s likely that equities will continue to stay depressed. The energy sector will especially see depressed valuations and weak quarterly reports in the coming months.