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Page added on December 9, 2014
How I Learned To Stop Worrying And Love The Collapse Of The Oil Market
Summary
- Diversify for safety and control risk.
- Energy provides positive diversification benefits.
- Take what the market gives you.
The downturn in oil prices has led to much discussion about investment implications, particularly within the Energy sector. As I write, 70% of Seeking Alpha’s Top Articles are focused on the Energy sector. Possibilities discussed range from a temporary buying opportunity to a long term multi-year bear market in oil prices.
My personal portfolio has not been immune to the pressure on energy names. My holdings in ONEOK (NYSE:OKS) have dropped more than 30% in a few short months. I’m here to tell you that I’m perfectly fine with that. The changing oil environment did lead me to reevaluate my holdings in the energy sector, but after doing so I affirmed that I’m comfortable with them.
For me, it all comes down to the reason I hold stocks within the Energy sector to begin with. I hold them as one component of what I feel is a reasonably balanced portfolio that meets my needs and risk tolerance. Overall, the Energy component of my portfolio is 13%, which is higher than the S&P 500 allocation of about 10%. I am overweight energy (including MLPs) because that sector tends to have a relatively low correlation to most portfolios, mine included. In other words, energy holdings should provide positive long-term portfolio diversification benefits by increasing risk-adjusted return.
As far as problems go, low oil prices seems to me to be amongst the better ones to have. Sure, there’s risk of counterparty defaults creating financial disruption and risk of lower quality companies going out of business. But these risks seem nowhere near as dire as oil price spikes and the days when the sky was falling due to peak oil (does anyone remember those days?). History has shown that equities can perform quite well in an environment of moderately rising oil prices and most economists would agree that falling oil prices bode well for the overall economy. So it seems that for my portfolio, any scenario aside from $150+ barrels of oil places me in a position for overall long-term portfolio growth. Falling oil prices can certainly weigh upon the 13% of my portfolio dedicated to energy, but the other 87% should be just fine; with a substantial part disproportionally benefiting from low oil prices.
In a world where we’re constantly bombarded by the latest news headline and crisis, it takes fortitude to keep the big picture in mind. Don’t let the past six years lull you into a sense of what “normal” should look like. In a balanced portfolio, it is unusual for all of your holding to move up in lockstep for extended periods of time. In fact, if that is the case, chances are that your portfolio is not well diversified. Low correlation assets are something every investor should hold in their portfolio. By definition, they will and should underperform from time to time. The real risk is failing to properly diversify to begin with.
As with my energy holdings, I hold a small allocation to REITs for similar reasons: high dividend yield, low portfolio correlation and low beta. I don’t stress over what interest rates or oil prices will do to these sectors. I hold them for their diversification benefits and am prepared to accept any and all changes in price that will come to them as market conditions ebb and flow. In my opinion, most investors would be well served to do the same.
5 Comments on "How I Learned To Stop Worrying And Love The Collapse Of The Oil Market"
Makati1 on Tue, 9th Dec 2014 6:45 am
More capitalist Wall Street junk …
Davy on Tue, 9th Dec 2014 6:48 am
A good portfolio now is no portfolio. One should go ahead and go completely physical with lifestyle changes. This change requires lifestyle changes. One should move to a relatively stoic, resilient, and sustainable lifestyle. Move to a local that has these same characteristics. It takes many months’ even years to make this transition.
It appears increasing likely we don’t have more than 3-5 years due to the dangers in the economy and oil depletion. This transition is critical to being prepared for a crisis that could be life threatening. Do you want to be scrambling in a state of panic or making good decisions with basics covered? This would be the short term challenges. Longer term if economic activity stabilizes do you want to be in an unsustainable and dangerously exposed local or one that has a future? These are the type of questions smart money should be asking. I say play the game if you have these other issues covered but cover the basics first.
eugene on Tue, 9th Dec 2014 8:56 am
Author needs to live at or near the bottom of the food change. Wouldn’t be so naively idealistic.
Dave Thompson on Tue, 9th Dec 2014 9:40 am
I got to this point and quit reading; “But these risks seem nowhere near as dire as oil price spikes and the days when the sky was falling due to peak oil (does anyone remember those days?).”
Apneaman on Tue, 9th Dec 2014 11:52 am
It is not real optimism, false bravado is what we are seeing and hearing and it will only get louder and more ridiculous as the great unraveling of industrial civilization continues. Once it all comes crashing down there will be no new normal for many of these investor class type people. Their new found poverty and dreaded loss of status will break them. Suicides have been increasing since 2000 (same time contraction started) and they took an even bigger jump in 2008 and are especially prevalent in men. Men who lose their jobs/income and no longer feel useful. Once governments and central banks can no longer paper over overshoot we will see people checking out early in droves. Along with all the other mayhem that goes with collapse.