February 2015
The Upside of Lower
Commodities Prices
Investment Themes from Credit Suisse
Private Banking and Wealth Management
Drilling for
Opportunities
Barbara Reinhard, CFA
Chief Investment Officer, Americas
Private Banking and Wealth Management
Executive Summary
While some markets will benefit from plummeting oil and
commodity prices, others will suffer—and investors can exploit
this opportunity by actively managing their investment portfolios.
In this report, we analyze why prices have declined, and explore
investment strategies designed to capture gains from those
mostly likely to profit, such as developed equity markets and
Asian and reform-oriented emerging market oil-importers—
while limiting exposure to those most likely to lose, principally
sovereign oil-exporters.
Understanding the Decline
Oil prices have declined for three key reasons:
1.Strong supply growth from the US shale boom, the return
of disrupted OPEC barrels from Libya and Western Africa,
and increased production from non-OPEC producers, such
as Brazil, as a result of increased geo-political stability.
2.Continued weakness in global demand, partly the result
of slower growth in emerging markets, Europe, and Japan.
This year’s demand growth is expected to be very modest
at +0.7mb/d, based on projections from the International
Energy Agency.
3.OPEC’s abandonment of its historical role as a global oil
price-setter, and its failure to reduce supply as oil prices have
dropped. We think OPEC’s decisions are a response to its
weakening hold on price-setting, as the US has grown to
become a marginal producer. OPEC’s ‘no-cut’ decision last
November seems to confirm that core-OPEC members (Saudi
Arabia, UAE, Qatar, Kuwait) are willing to defend market
share by forcing a slowdown in production across non-OPEC
producers and US shale. Without the supply restraint from
OPEC, oil prices have collapsed.
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2
February 2015 The New Oil Price Reality—Structurally Lower
In early January 2015, West Texas Intermediate (WTI) crude oil
prices fell below $50/bbl for the first time since 2009, a decline
of more than 50% since 2014’s summer high of $107/bbl.
Lower oil prices are likely to fluctuate until demand/supply
dynamics stabilize. We think a new medium-term equilibrium
for oil prices should ultimately be somewhere around $75/bbl,
based on our projections for global economic growth; there
is risk that prices could overshoot to the downside, but it may
take until mid-2016 to reach that point.
Financial Market Implications
We see three key effects from lower oil and commodity prices:
1) a boost for economic growth via consumer spending; 2)
continued support for equity markets; and 3) the potential for
geopolitical challenges in non-OPEC countries and regions.
Lower prices shift money to consumers
Lower commodity prices can support economic activity by:
• Serving as an implicit tax cut, shifting cash flows from oil
producers to consumers’ disposable income. Paying less
at the gas pump could put an incremental $200 billion in
US consumers’ pockets over the next year. Since consumer
spending accounts for two-thirds of the gross domestic
product, this massive “tax cut” will have more impact on
economic growth than declining energy markets.
Credit Suisse Private Banking and Wealth Management
Equity markets should continue to strengthen
While there are clear winners and losers in this environment,
sustained lower energy prices should provide for consumer
support and low inflation, which would benefit equity prices.
According to Ned Davis Research, when declines in commodity
prices have not been associated with recessions, equities have
done well, with the S&P 500 Index delivering a median return
of 20.2% in the year after a 20% year-over-year decline in
commodities (Display 2).
The recent volatility in the equity markets and crude oil price has
largely resulted from concerns around a perceived slowdown in
economic growth—concerns we believe may be exaggerated,
and leading economic data supports gathering strength for global
industrial production. We think the degree of exaggeration will
become apparent after equity markets stabilize and fully integrate
the benefits of lower commodity prices.
Display 2: Lower Commodity Prices Support Equities
ex Recession
S&P 500 Performance After S&P GSCI Year/Year Declines of at Least 20%
Date
1 Month
% Gain
3 Months
% Gain
6 Months
% Gain
12 Months
% Gain
Linked to
Recession?
7/18/75
-7.5
-4.1
4.1
12.3
Yes
8/17/76
0.5
-45
-3.6
-6.7
No
9/17/81
1.7
4.5
-5.8
5.7
Yes
4/6/86
1.0
8.7
0.5
25.8
No
• Boosting consumer confidence; historically, consumers
feel more confident when gas prices decline (Display 1).
8/21/91
-0.7
-2.9
6.0
7.1
Yes
12/15/97
-1.3
12.7
14.9
20.7
No
• Holding inflation down, providing more room for faster
growth without stoking inflation fears.
1/14/97
2.4
8.8
17.0
19.6
No
9/20/01
9.0
16.8
16.7
-14.1
Yes
10/22/08
-16.1
-7.2
-3.4
21.9
Yes
Median All
Cases
0.5
4.5
4.1
12.3
Media
Recession
-0.7
-2.9
4.1
7.1
Median No
Recession
0.8
8.8
7.7
20.2
However, the consumer benefit will be somewhat offset by
the decline in capital expenditures from energy-producing
companies. We expect these companies to reduce capital
spending by approximately $100 billion over the next year,
perhaps less, if oil prices stabilize. Balancing the boost to
consumers against energy companies’ lower capital
expenditures, the economy should benefit by a net $100 billion.
Display 1: Falling Gasoline Prices Positive for
Consumer Confidence
-40%
25
-30%
15
-20%
-10%
5
0%
-5
10%
20%
-15
30%
-25
2008
2009
2010
2011
2012
2013
2014
UMich consumer confidence, expectations, 6m ch (6m lag)
Gasoline prices, 6m%ch, rhs, inverted
As of December 9, 2014
Source: Datastream, Credit Suisse Research
2015
40%
As of December 16, 2014
Source: Ned Davis Research; Note: S&P/Goldman Sachs Commodity Index is
an index comprised of 24 commodities tracking price movement of the commodity
market. Associated with Recession: S&P GSCI 252-day percent change first
drops below -20% during a recession, as defined by the National Bureau of
Economic Research, or within one year.
Risk of disruptive political and economic events
Sustained lower oil and commodity prices may lead to political
and economic challenges for:
• Sovereign oil-exporter risks, as is already evident in
the weakness in Russian equity and debt markets, and the
ruble. However, we do not expect the significant contagion
risk we saw in the late 1990s, as Russia has over $300
billion in reserves, which should help cushion any nearterm imbalances.
• Non-core members, which have a fiscal breakeven oil
price that is significantly higher than current crude prices.
The greatest sovereign risks lie with countries that need
sustainably higher oil prices to maintain fiscal and social
stability. We highlight those countries that need significantly
higher oil prices in Display 3.
3
February 2015 core-OPEC
Display 3: Vulnerabilities revealed in Fiscal Break-Evens
($/Barrel)
Credit Suisse Private Banking and Wealth Management
Energy-consuming industrials
The transportation and utilities sectors, and select manufacturing
companies, will benefit from declining energy prices, as these
sectors are highly sensitive to such costs. According to the
Bureau of Labor Statistics, energy costs account for nearly 20%
of the value of the transportation sector, resulting in significant
costs savings for the space (Display 5). Within this asset class,
we recommend focusing on energy-consuming stocks, such
as airlines, refineries, and manufacturing companies.
Kuwait
Qatar
UAE
Saudi Arabia
Oman
Russia
Iraq
Algeria
Display 5: Energy Costs as Share of Production Value
Oil importers and Reform-Oriented Emerging Markets
Bahrain
Iran
Yemen
Libya
Transportation
200
As of May 2014
Source: Credit Suisse, International Monetary Fund
17.5
Primary sector
5.8
Real estate & finance
Investment Opportunities and Trouble Spots
Construction
3
Manufacturing (non-durables)
2.5
2
Mining
1.9
Information
0.4
0
2
4
6
8
10
12
14
16
18
20 %
Cost of energy as % share of value of sector output (2012)
As of December 31, 2014
Source: BLS, Credit Suisse
• Restaurant, apparel, and furniture, especially those that
target lower income ranges, which include consumers most
likely to spend more of their disposable income.
In the US, the consumer discretionary sector has only recently
started to outperform. We expect further positive earnings in
the coming months (Display 4). Even though company valuations
in this sector have started to rise with a strengthening economy,
they still offer good opportunities.
Display 4: Higher sensitivity sectors benefit most from
changes in price of energy
0
3
Manufacturing (durables)
Consumer discretionary stocks
The overall consumer discretionary sector should benefit
from the drop in oil and energy-related product prices and
the resulting increases in disposable income. We favor:
• Auto and airlines, which should outperform the broader
market since lower commodity prices reduce input costs.
% -0.50 -0.40 -0.30 -0.20 -0.10
19.9
Utilities
We expect oil-importing countries, predominately those located
in Asia, and reform-oriented emerging markets, to receive a
boost in economic activity both from lower commodity prices
and continued positive global economic growth (Display 6).
Asian economies will likely benefit as they are net oil-importers;
moreover, lower oil prices are likely to strengthen both economic
growth and sentiment in:
• Countries sensitive to inflation
• Countries with fuel subsidies, such as India, Indonesia,
and Thailand.
Display 6: Impact of Lower Energy Prices
0.10
Autos and parts
Furniture and Durable household equipment
Gasoline and other energy goods
Apparel, Clothing, and Footwear
Recreational goods and vehicles
Other durable goods
Financial services and Insurance
Other services
Airlines/Transportation services
Health care
Other nondurable goods
Food services and Accommodations
Housing and utilities
Recreation services
Food and beverages
% change in demand in response to a 1% rise in the price of energy products
As of November 25, 2014
Source: Credit Suisse CIO Americas, Datastream
Note: Negative sensitivity means the sector benefits from a drop in energy prices.
Imports / Exports in % of GDP (2013)
20
15
10
5
0
-5
-10
-15
Oil
Coal
Gas
As of December 31, 2012
Source: Credit Suisse CIO Americas, Datastream, UNCTAD
*Saudi Arabia
180
Russia
160
Indonesia
140
Mexico
120
Brazil
100
Turkey
80
Poland
60
China
40
India
20
Korea
0
4
February 2015 Credit Suisse Private Banking and Wealth Management
Energy equities
As with crude oil prices, energy-related equities have declined
significantly. While they may seem cheap, technical indicators
are still not positive, and these equities are likely to continue
to come under pressure until oil prices stabilize (Display 7).
Conclusion
• Overall, the downstream segment should fare best, as the
pipeline and storage business is less affected by oil prices.
Lower oil prices typically mean more oil flowing into storage
facilities, and refiners should benefit from the declining cost
of oil used to produce refined products, such as gasoline.
• Moving from passive to active exposure by looking for a
manager who can rotate into countries poised to benefit from
segments of the market that have negative sensitivity to the
crude oil market.
Some specific energy equity investment vehicles, such as
Master Limited Partnerships (MLPs), have seen some sharp
price adjustments. This movement has brought yields close
to those of high yield bonds, and MLPs now seem more
attractive. Since MLPs are less vulnerable to the price of
crude oil—as they focus on midstream production services
and have contracted pricing—we will watch for a buying
opportunity, although we remain cautious on the energy
sector as a whole.
• The market’s upstream segment will suffer from a sustained
drop in oil prices. As cash flows decline, and exploration
and production become relatively more expensive, we expect
to see companies scale back capital expenditures on new
and expansion projects.
Display 7: Weak Technical Indicators for Energy Equities
Index
770
730
690
650
610
570
530
Dec 13
Feb 14
Apr 14
S&P 500 Energy Index
50 Day Moving Average
Jun 14
Aug 14
Oct 14
200 Day Moving Average
As of January 31, 2015
Source: Credit Suisse CIO Americas, Bloomberg
Dec 14
Jan 15
Oil is one of the true global currencies, so lower commodity
prices, in the absence of a US recession, tend to be very good
for equities. To take advantage of this changing landscape in
2015, we recommend:
• Repositioning a large cash or equity allocation to invest in:
– Consumer discretionary stocks, such as airlines and autos
– Energy-consuming industrials, such as manufacturers
– Asia and reform-oriented emerging market oil-importers.
5
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