The oil industry was hammered at the beginning of 2020. Trouble had been brewing for several months before the turn of the year. Prior to the pandemic hitting, there was a coordinated drone attack on Saudi Arabia’s crude production sites, knocking out more than half its production capacity. A Saudi-Russia price war followed. Meanwhile, mounting geopolitical tensions between the US and China were inflating oil prices, creating wild volatility. But ultimately, the Covid-19 pandemic thwarted any signs of a recovery, sending oil prices plummeting. Oil stock prices followed, and many companies faced bankruptcy or becoming a takeover target. This made investors reluctant to buy oil stocks.
Oil demand will return
In the US, shale production ground to a halt as the oil price floated around the $40 mark for months. This led many US shale producers to declare Chapter 11 bankruptcy and see their oil stock price burn. Meanwhile, the OPEC+ cartel made several attempts at keeping production down to stop the growing supply from mushrooming out of control. The catch-22 situation is, if the oil price stays above $50 for a reasonable time, US shale oil production comes back online. This creates a glut and again pushes the price down. But it’s not just the US—Saudi Arabia can produce oil cheaply, Libya has come back online, and Iran is threatening to.
The OPEC+ alliance is attempting to keep a level playing field, but all is not fair in business and oil, so it’s very difficult to manage. It has already cut its demand forecast for 2020 and projections for 2021 are lower too. Yet, recovery across Asia is showing a bullish projection for oil demand, which bodes well for a rising oil price.
Oil stock price volatility
The pandemic has crushed demand, for now. And peak oil may very well have passed. But suppressed demand is unlikely to remain the case. It will take years for oil to be obsolete. It’s used in the manufacture of practically everything we own and use on a daily basis.
So, when it comes to investing in the oil industry, I think there are some companies here for the long haul. However, investing in oil stocks is not for the fainthearted. It’s a volatile sector, and that’s unlikely to change. The biggest oil stocks in the UK’s FTSE 100 index are BP and Royal Dutch Shell. Both have pledged to move into renewables.
This has received a mixed response. Diversification is important for survival and they certainly have the business acumen, industry experience, and management knowledge to steer them onwards and upwards. This is particularly true when it comes to accessing capital for growth. However, moving out of oil is unlikely to be as financially lucrative in the long run, especially as government subsidies end. There’s major pressure on institutional investors, pension funds, etc., to cut ties with Big Oil and move into more ethical and sustainable areas such as renewables. But investors worry the profitability of this sector is limited.
I think oil industry stocks will remain volatile, but there’s money to be made. I believe oil stocks are among the best UK shares to buy now. Both Shell and BP are powerful institutions that offer long-term investors a decent dividend yield. I’d happily buy more shares in them in 2021.
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Kirsteen owns shares of BP and Royal Dutch Shell B. The Motley Fool UK has no position in any of the shares mentioned. Views expressed on the companies mentioned in this article are those of the writer and therefore may differ from the official recommendations we make in our subscription services such as Share Advisor, Hidden Winners and Pro. Here at The Motley Fool we believe that considering a diverse range of insights makes us better investors.
Motley Fool UK 2020