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Robert Rapier: Grading My 2015 Energy Predictions
Introduction
“It’s tough to make predictions, especially about the future.” ― Yogi Berra
I haven’t looked forward to this post since about mid-year, when it became clear that I wasn’t going to have a repeat of 2014’s perfect record. I recall a year ago wondering whether I would ever have a year the exact opposite of 2014 where I would end up with none of my predictions coming true. While I did a little better than that in 2015, there is no question that the year defied my expectations on many fronts. I did indicate at the time that rising uncertainty in the markets defied easy prediction. That certainly turned out to be true.
The funny thing about predictions is that things are always obvious in hindsight. I rarely have people suggest that any of my predictions are either “no-brainers” or “impossible” when I make them. But when it’s time to grade them, I hear that a lot. “You predicted lower oil prices for 2014. Of course oil prices were bound to fall.” Those are the sorts of comments that tend to be made following six months of oil price collapse hindsight.
The hardest predictions to get right are those that require a certain condition to be true all year long. A lot can happen in a year. Oil prices have skyrocketed and plummeted in the course of a year. One of my predictions was in that category. It was correct for most of the year, but enough eventually happened to prove it false. It was clear to me by mid-2015 that conditions were starting to tilt in that direction, but I don’t make predictions in six-month increments.
The Good, the Bad, and the Ugly
So, with that lead in, here is a rundown of how my predictions for the year fared, as well as an explanation in some cases for why things ended up differently than I thought they would. My predictions were initially made in My 2015 Energy Predictions. Here they are, the good, the bad, and the ugly — in the order I made them.
1. The closing price of West Texas Intermediate (WTI) crude will not fall below $40/bbl in 2015.
This was the one that had the potential to be the first to be falsified. When I made the prediction, oil prices were already in the $40s and dropping fast. This prediction could have proven false within a month of me making it.
Before the end of January, the closing price of WTI fell to $44.12, but then bounced off of that level back to the $50s. It made a couple of runs at $40 before turning upward each time. The price climbed into the $60s by May, and remained there for nearly two months. But then OPEC met again and decided to continue to overproduce its quotas. Crude oil inventories had come down some, but I became concerned for the first time that the continued overproduction could drop the price well below production cost. Shale oil production was falling, but not fast enough.
So prices began to fall again, and in late August WTI finally closed below $40/bbl for three straight sessions, proving me wrong. At that point, the price bounced off a low of $38.22 and climbed back into the upper $40s. I had the unpleasant experience of some people getting nasty about this one. They were playing close attention to the price, because as soon as $40 was breached they were quick to let me have it. Some were happy to let me know that they “knew” the price would drop below $40 — in one case falsely claiming that the price had collapsed because of a collapse in demand.
I had to reiterate why I make predictions. It’s not so I can sound smart. It’s to try to put some framework around what I think is likely to happen over the next year in the energy sector given the current outlook, and how I think that will shape the year. The context around the prediction is more important than the actual prediction. Why did I make the $40 prediction? Primarily because $40/bbl oil isn’t sustainable. For investors, I think $40 oil is a bargain over the long-haul, even if it dips somewhat below that in the interim. Until August, the $40 prediction held for WTI. So even though the prediction was proven wrong, $40/bbl still looked like a pretty solid price floor.
But then another OPEC meeting in December reiterated the overproduction strategy, and WTI broke back below $40/bbl. This time was different than August, as the price would not only remain below $40, but drop into the lower $30s.
If we were grading on a pass/fail system, it is clearly a fail. If we are grading on a curve, then as of August the prediction still provided useful guidance on a $40 floor for oil, but by December what I would have considered a “B” in August had become a “D.” Had prices fallen into the $20s (as many predicted and continue to predict), I would have given myself an “F” on this one. Speaking of “Fs”…
2. West Texas Intermediate (WTI) will average more than $60/bbl on a daily closing basis.
Through Dec. 21, the average closing price of WTI for the year was $48.66. That is 18.9% below the average price I predicted. This was a clear miss.
3. The average Henry Hub spot price for natural gas will be below $3.50/MMBtu in 2015.
Here is one that I did get right, and one that looks obvious in hindsight. I did identify it as the prediction in which I had the most confidence. The average closing Henry Hub price for natural gas in 2014 was $4.37 per million British thermal units (MMBtu). It would have been a bigger “no-brainer” to simply predict that 2015 prices would be lower, so I got a bit more aggressive with this prediction. Not aggressive enough, perhaps, as year-to-date the average closing price has been $2.64/MMBtu. A much bolder prediction — and one I briefly considered before concluding that it was too risky — was the price would fall below $2.00/MMBtu. That in fact happened briefly in October, and then again in December, when the price fell well below that mark all the way to $1.66/MMBtu.
The collapse in natural gas prices, just as the oil price collapse, is partly the result of the surge in U.S. shale output. But, in contrast to the global market for crude, U.S. natural prices still mostly reflect domestic supply and demand factors. The shale boom, combined with a couple of mild winters and summers, has resulted in the highest natural gas inventories on record. The long-term outlook for natural gas producers is still good, but the short term looks like it will continue to be painful.
4. U.S. crude oil production growth will probably slow, but will still expand for the seventh straight year.
This was another correct prediction, on both counts. U.S. crude oil production did slow, but did expand for the seventh straight year. In 2014, production averaged 8.7 million bpd, an increase of 1.2 million bpd over 2013 (which represented an increase of 1 million bpd over 2012.) This year through September, U.S. production has averaged 9.4 million bpd — an increase of 700,000 bpd over 2014. However, year-end production was below 9.2 million bpd after peaking at 9.6 million bpd in April. The average production numbers for 2015 won’t be finalized until early 2016, but based on the average through September and the year-end numbers, the 2015 average should come in at 9.3 or 9.4 million bpd.
5. The Energy Select Sector SPDR ETF (XLE) will rise at least 10% in 2015.
I consider this to be my worst miss. It was driven by both the collapse in oil prices and the collapse in natural gas prices. The problem with some of my predictions was they were interrelated. Failure of one led to failure of others.
In this case, the XLE had a total return in 2015 of -24.7%, and is now down 31.7% over the past two years. Historically, such a sharp decline leads to a rebound, but given the difficult intermediate outlook for oil and gas prices, an extended rally may still be months away.
6. BP will be bought out or merged in 2015.
I called this “my most aggressive, wild card prediction for 2015.” Speculating on a deal within a year was what made it the riskiest.
I made this prediction primarily to call attention to how grossly undervalued BP (NYE: BP) was relative to all of the other supermajors. This was true even if one assumed the worst case financial outcomes for BP related to the Deepwater Horizon oil spill in the Gulf of Mexico. I pointed out that there were only a handful of suitors that could pull this off, but that the value of BP’s reserves was compelling given the market value of the company. A company like Shell (NYSE: RDS-A) or ExxonMobil (NYSE: XOM) could find oil reserves on BP’s books at a much lower cost that of their own exploration efforts.
In fact, several sources reported that before Shell announced its $70 billion acquisition of BG Group (London: BG) earlier in the year, it seriously considered bidding for BP. Bloomberg also reported that “BP executives are concerned the company is vulnerable to an opportunistic bid” — with ExxonMobil and Chevron mentioned as the most likely pursuers. BP reportedly stepped up internal reviews of takeover scenarios and simulations of defense strategies against a hostile takeover, but acknowledged it would have limited options if ExxonMobil came knocking.
In July BP agreed to pay $18.7 billion over 18 years to settle the federal and state claims and fines over the Gulf spill, pushing the total tab for the disaster to nearly $54 billion. In October the Obama administration said it had finalized the terms of the settlement, which would actually be $20.8 billion. This removes a major uncertainty for potential BP suitors, but there are still hurdles in place. One of these is a small “poison pill” built into the settlement that could force a suitor to accelerate two-thirds of the payout to the government should they attempt to acquire BP. This is just another defensive measure BP has put in place, but it wouldn’t be a huge deterrent given that the overall acquisition price would be north of $100 billion.
For the year, BP’s share price outperformed Shell and Chevron. In fact, for most of the year it outperformed all of the other supermajors. And while it is still a compelling value in my view, BP closed 2015 without being acquired or merged. Hence, this prediction proved wrong, but I still expect a deal to happen at some point.
Conclusions
This was by far my worst annual predictions performance in a long time. I take little consolation from the fact that I had lots of company this year for missing the mark on the energy sector. I do believe the sector is largely oversold, and I expect better results in 2016. Next week I will outline my predictions for 2016.
Consumer Energy Report » R-Squared Energy Blog by Robert Rapier
10 Comments on "Robert Rapier: Grading My 2015 Energy Predictions"
Nony on Mon, 4th Jan 2016 1:35 pm
2015’s not that awful. Just like 2014 wasn’t as superstar as you patted yourself on back for.
Yeah, a lot of predictions were correlated (and thus not so interesting).
Yeah, you were wrong in the same direction as a lot of prognosticators. [Maybe you are management material. Always buy IBM and hire McKinsey. At least when they’re wrong, you are wrong along with everyone else and keep your job! 😉 ]
And (for oil) end result was far worse than the strip. [The market got it wrong too. Not as badly wrong, but wrong in same direction as you.]
Consider the FEB2016 futures contract (yes, I know you didn’t predict a close exactly, but it’s a decent proxy for what happened. Am using current prompt month as I don’t have a link for JAN16.):
http://www.cmegroup.com/apps/cmegroup/widgets/productLibs/esignal-charts.html?code=CL&title=FEB_2016_Crude_Oil_&type=p&venue=1&monthYear=G6&year=2016&exchangeCode=XNYM&chartMode=dynamic
Note that at year end 2014, this contract was at about $60. At the end of 2015, we were down to ~$37. While the financial markets (the strip) did expect prompt month oil to improve from the ~$45 (prompt month at end 2014) up to ~$60. We really dropped down over ~$20.
Many prognosticators (especially from the peak oil or peak oil lite schools) expected a recovery and thought the markets were too NEGATIVE at year end 2014. (Consider James Hamilton in late late NOV14 saying that producers should hold oil since it would be worth more than $85 if they waited.) Actually the markets were not (price) negative enough! The market needed to be more cornucopian and less scarcity tinged. (Of course there is always a balance and extreme proponents of either are silly…but the net result of 2015 was to show the markets had not been cornucopian ENOUGH at end 2014.)
I wouldn’t feel bad about the dropping below $40. In fact, I was one of the people who DID say that it was actually hard to say if this was an aggressive or not aggressive call. The thing is that it confounds volatility with trend. You’re looking at ~250 days of oil closes. Even if the average remains above (even well above) $40, there is a chance of a single close below.
In addition to being somewhat mathematically hard to handle, it’s really very meaningful to make a “single day below” style of call. What matters to producers and buyers is what they average throughout the year. Also the year end close is interesting since it has an expectation for long term prices.
I don’t have access to the old strips to see what markets were predicting for natgas, but just looking at FEB16 contract, the markets were predicting it sub-3.50 as of beginning 2015. Presumable the 2015 months were predicted even lower (since the chart has been contangoed, excepting seasonal cycle, for years now). So the nat gas call was reasonable, but not particularly gutsy.
In general, the predictions and discussions are lacking by not referencing and discussing the futures strips. This is the “Vegas line”. Even if you disagree (interesting), you should refer to it as it is the consolidated “odds” produced by the free market. It’s like discussing who will win a football team ONLY from first principles and never addressing what the money on the table predicts (point spread). In addition, to make useful use of the discussion, need to know how it compares to futures markets to make a trade one way or the other.
I cringe when I hear stuff about “price was dropping” at the end of 2014. The curve was in CONTANGO. “Momentum” of financial prices is silly, silly, silly. Every academic study with large sample size has shown no basis for it and EMH argues against it. It’s just silly soundbite stuff for Jackie DeAngelis. Should not be a part of any serious industry analysis discussion.
The BP call was very gutsy (unlikely) and kind of cool as a discussion point. You might be right as a general point to have highlighted the stock’s undervalue, but if there was a broader point about massive M&As, that has not happened yet within the majors. Even for the US E&Ps, we haven’t seen anything like the M&As and BKs talked about in JAN2015. [That said, I do expect some more substantial consolidation and liquidation in 2016. Just it has been a bit slower than lots of people predicted.]
Apneaman on Mon, 4th Jan 2016 1:54 pm
I knew a Rapier article would bring his internet stalker, nony-marm, out of the shadows.
Nony on Mon, 4th Jan 2016 2:03 pm
You are a shrewd one, ape. Seen you with insights on other things before, too.
Davy on Mon, 4th Jan 2016 2:25 pm
NOo, welcome back after a long absence. Looks like you cats in South Cal may get some much needed rain over the next 7 days.
GregT on Mon, 4th Jan 2016 3:27 pm
“Yeah, you were wrong in the same direction as a lot of prognosticators.”
Why not post your response on Rapier’s blog Nony? Where he can read it and respond back to you. Or did you get yourself kicked off of there as well?
Nony on Mon, 4th Jan 2016 4:36 pm
Naw…but it’s registration required now.
Anyhow, I think this yearly prediction stuff is kind of gimmicky anyhow, especially for gas which is literally predicting weather!
Think the more interesting battleground of opinion is for the medium term (say 3 years out). Then you can consider things like shale supply (are we running out of sweet spot, is technology getting better, associated gas, etc.) and questions of demand (war on coal, LNG/Mex exports [even the world LNG price battle]).
Rapier mentioned a couple years ago that his medium term outlook was for $5-6:
“Over the next three to five years I expect natural gas prices to rise beyond $5/MMBtu as liquefied natural gas (LNG) projects come online. The first exports from the Lower 48 will most likely happen in 2016 when Cheniere Energy (NYSE: LNG) starts the first two liquefaction trains at the Sabine Pass Liquefaction Project. Two more trains are scheduled to come online in 2017. I think it’s likely that investors will start to bid up the price of gas as these projects move closer to completion. The EPA has also proposed regulations that would effectively preclude new coal-fired power plants from being built in the US, so as older coal-fired power plants are retired, natural gas will pick up some of that capacity.” -JAN14
“Previously I highlighted some reasons I believe that gas is going to trade up into the $5-$6 range over the next 3 to 5 years…” -MAR14
So he predicted an expected ~ $5-6 from JAN17-DEC18. [Excepting weather driven gyrations up/down.]
What’s it looking like a year out? Looking at (more frequently traded) DEC and JUN issues, at start 2014 (made prediction) and start 2016 (now):
contract YE2013 call YE2015 so far
Dec-16 $4.3 gutsy (high) $2.7 wrong (high)
Jun-17 $4.1 gutsy (high) $2.7 wrong (high)
Dec-17 $4.4 gutsy (high) $3.0 wrong (high)
Jun-18 $4.1 gutsy (high) $2.8 wrong (high)
Dec-18 $4.4 gutsy (high) $3.1 wrong (high)
So what do we see? His call was higher than the strip (about a dollar higher, not dramatically, but noticeably.) What do the markets foresee as we run into the period of his prediction? Dramatically lower than his call on fundamentals: high 2s to low 3s versus his call of 5s. More than a two dollar difference less.
What’s the learning? Did demand stop? Did the war on coal stop? LNG exports stop? No.
Volume is up ~6-7% YOY every calendar year, for the last 5 years. (It has been flat during 2015, but the year average is still 7% above 2014 even though the JAN-OCT15 trend is flat.)
Yeah, we had a warm NOV-DEC this year, but we had a cold winter in early 2014. So weather averages out and can be expected to average out even more in the context of looking through 2018.
The big difference has been continued supply growth even at low prices. The Marcellus really IS mighty. And markets rather than being too cornucopian, were not cornie enough.
Nony on Mon, 4th Jan 2016 4:50 pm
Rapier, August 2014:
“Over time, they [weather impact on prices] will average themselves out, and there are a number of factors that argue that natural gas prices will move higher than may be implied by natural gas futures prices.”
So far strip itself is not correcting to go higher (than it was in JAN14 or even AUG14), but instead moving LOWER. See for instance, this wonderful article (in particular the first graph showing how the strip itself has moved)*:
http://seekingalpha.com/article/3565706-natural-gas-a-sub-3-commodity
*And it’s just gotten lower since OCT15…
makati1 on Tue, 5th Jan 2016 6:59 pm
Reading ox entrails would give you just as accurate a picture of 2016. No one has any idea what the next 360 days will bring. Or even tomorrow, other than the sun will rise and we will have weather.
Anonymous on Sun, 28th May 2017 8:36 pm
We are into 2017 now. The time window where Rapier expected prices in the $5 to $6 range. But natural gas is in the low $3s.
The outlook for the next couple years is around high 2s, low $3s also. (CME strip.) Of course we could have some weather events (either direction). But given average weather, market is counting on gas in the 2.50 to 3.50 range. Not 5 to 6.
Anonymous on Sun, 28th May 2017 9:04 pm
https://www.investingdaily.com/19028/natural-gas-is-still-a-steal/
Article is title “Natural Gas is still a steal” (at $4.27, and referring to few years out from 2013).
“The price of natural gas has risen to $4.27 per thousand Btu (MMBtu), which is $1 more than it was this time last year, and more than double the price at which it bottomed in 2012. But if you look at the New York Mercantile Exchange (NYMEX) futures, traders are betting that gas will stay below $5/MMBtu for nearly a decade. At last Friday’s close, you had to go all the way to January 2022 to find a contract trading above $5. And contracts expiring five years from now are actually trading at a slight discount to today’s price. I would be shocked to see US natural gas below $5 in five years.”
“Bottom line, I see natural gas prices making a decent move upward over the next three to five years.” (from $4.27 at time of the article).
——–
We hit 3 years out from DEC13 in DEC16, that is last winter. We are in the period where Rapier exected higher prices than 4.27. And we aren’t seeing it. And the spread is now looking much lower than it did when he wrote his article. Expectation is high 2s and low 3s through DEC18.
I wonder if he is ready to change his views? Anything he learned about how he made his estimates to change in the future? Although he is not as bad as a typical peak oiler, he still seems to be tinged with the pessimism of the species. And it has resulted in him overestimating prices for medium term outlooks (3 to 5 years out).