Either Oil Soars Back To $88, Or Energy Stocks Have To Tumble By Over 40%

Tyler Durden's picture


Several days ago we showed something remarkable: "current forward 12-month P/E ratio for the Energy sector is now well above the three most recent historical averages: 5-year (12.0), 10-year (11.9), and 15-year (13.6). In fact, this week marked the first time the forward 12-month P/E for the Energy sector has been equal to (or above) 22.4 since April 8, 2002. On that date, the closing price of the Energy sector was 225.15 and the forward 12-month EPS estimate was $10.05."

Further refining this analysis and using the S&P Energy Sector Index data, the sector's forward multiple is now an absolutely ridiculous, mindblowing 23x, the highest since 2002, having soared by nearly 100% in just the past few months as a result of collapsing energy sector earnings.


How is this possible?

Simple: as the chart below shows, since the oil's peak in June 2014, Energy company EPS have crashed by 50%, as a result of a 60% plunge in the price of oil. What about Energy Index prices? Well, they have fallen to be sure, but nowhere near far enough to where they should, down "only" 20% from the highs.


So what does this mean? Simple: either the long-term PE multiple is now null and void, and the "New Normal" forward PE of 20X+ is realistic, which of course is ridiculous, or there are two alternatives:

  • Energy sector earnings have to surge by 70%, implying a near doubling of oil prices to $88, for the forward P/E multiple to return to normal, or
  • The Energy sector price has to crash from 549 today to 323, where it would trade down to its historic forward P/E multiple, suggesting a price drop of over 40%!

This is shown visually on the table below:

So which is it? Well, as the following chart showing a relationship we have grown to love over the past few months, the main reason why energy stocks are loathe to catch down to reality is the same BTFD mentality which is keeping the S&P elevated well over 100% above its fair "ex-central banker" value. Indeed, every single time even the smallest buying momentum arrives, energy stocks soar as if stung, only to recrash day after precisely to where credit says they should be trading.


Which means that once the ongoing euphoria of a 5 year Pavlovian BTFD reaction wears off, the pain for those long energy equities (and credit, since the above analysis implies energy credits are also massively mispriced) will be unprecedented, unless of course, by some miracle, oil does indeed double from here and on very short notice.

But wait, it gets worse, because while equities are pricing in an unsustainable 23x in foward energy P/E, another market, that of interest rate forwards, is implying oil plunging down to $35! As a reminder, oil is among other things, a function of rate differentials or said simpler, USD strength, strength which appears is not going anywhere. And as the following calculation from Cornerstone implies, should the EURUSD tumble to parity which is what Draghi's desire seems to be, it would suggest a 22% plunge in oil from here, implying a $35.5 price of oil one year from now.

This in turn would mean that, all else equal, the forward PE multiple would rise to just shy of 30x, and/or that Energy prices as a group would have to tumble over 50% from current levels!

Of course, if and when energy prices are cut in half, this would also have devastating consequences on the rest of the S&P, and all other asset classes, and almost assuredly force the Fed to not only forget all about hiking rates, but promptly engage in QE4.

Which may be just what the market is pricing in.

The only problem is that one can't have a world in which both QE4 is priced in (as equities are doing), as well as pricing in the 2015 Fed rate hike (as oil is doing), and is one of the main drivers of the USD strength.

One has to give, and it has to give soon.

h/t Cornerstone

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Thu, 01/29/2015 - 16:00 | 5721537 JungleCat
JungleCat's picture

As supplies dwindle, prices will go up again....but when?

Thu, 01/29/2015 - 16:05 | 5721560 Latina Lover
Latina Lover's picture

I vote for a 40% decline.

Thu, 01/29/2015 - 16:20 | 5721601 JungleCat
JungleCat's picture

You are right in the short term. But long-term, none of this matters. Unless those geniuses at Livermore figure out how to do fusion on Earth, then we are all screwed.

Energy is the key component in providing Food Energy and Water (FEW), and if we don't figure out how to provide renewable on-tap energy, there will indeed be very few of us left on the planet. It wouldn't be the first "Great Dying" in the geological record.

Thu, 01/29/2015 - 16:46 | 5721831 Publicus
Publicus's picture

Long term you are dead and does not matter.

Thu, 01/29/2015 - 17:02 | 5721932 JungleCat
JungleCat's picture

You must not have children. I do.

And I don't want my misspent golden years to involve hardship. I want those years to involve beering, leering and hump days in San Jose, CR.

Thu, 01/29/2015 - 17:11 | 5721978 cnmcdee
cnmcdee's picture

We have quota limits on sugar, tariff limits on lumber, milk boards, wheat boards - just about everything is price protected or heavily subsidized.  Yet when Saudi Arbia decided to try to undercut the shale oil industry to detroy it, shelve it, and buy up the left over pieces - we do nothing.

Now that America can finally become energy independent it's time to put a floor on import oil at $80 / barrel to help establish internal industries.  Let Saudi Arabia compete with Russia to sell Europe and China cheap oil.

Thu, 01/29/2015 - 17:50 | 5722179 Abbie Normal
Abbie Normal's picture

Because quotas have worked so well in the past...

Thu, 01/29/2015 - 16:20 | 5721660 Carpenter1
Carpenter1's picture

With shale, my vote is for a 100% decline.

Thu, 01/29/2015 - 16:04 | 5721566 Tyler Durden
Tyler Durden's picture

It's not about supplies, it's about funding (courtesy of ZIRP), and how much longer will yield-starved investors provide junk/2nd/3rd lien debt to otherwise insolvent shale companies, keeping them viable and pumping oil for their lives, in the process pushing the price even lower.

As a reminder, "These Shale Companies Will File For Bankruptcy First: Goldman's "Best And Worst" Shale Matrix View Article Votes." Although indeed, the question is when.

Thu, 01/29/2015 - 16:18 | 5721627 JungleCat
JungleCat's picture

You are so correct about the role of ZIRP. See, back when I worked for Schlumberger, none of the drilling and well completion was made possible by ZIRP. At best, there were tax breaks. And how the plebs screamed about those tax breaks!

Why don't the plebs scream about ZIRP and NIRP? Is it because they don't feel the twin shafts of ZIRP and NIRP in their colons yet? At least their sphincters should be twitching by now.

Thu, 01/29/2015 - 16:25 | 5721676 El Vaquero
El Vaquero's picture

The ignorance of the sheep is akin to sensory deprivation here.  You could tell them they're getting fucked,  but in their sensory deprived state, they won't feel it.  They'll just know that something is wrong.  Perfect for stampeding them over a cliff.

Thu, 01/29/2015 - 16:27 | 5721698 McMolotov
McMolotov's picture

If I ever get booted off ZH for some reason, I'm coming back as "Twitchy Sphincter."

Thu, 01/29/2015 - 19:39 | 5722653 Drachma
Drachma's picture

Laughed so hard something twitched.

Thu, 01/29/2015 - 17:26 | 5722039 Lumberjack
Lumberjack's picture

I hope you had stock in them back then. I still kick myself in the ass for not doing so.


I recall some years ago when J. Paul Getty heard about a man drilling for oil in the Northeast and tried to pay him to stop. The man wouldn't and kept drilling. Finally after repeated attempts, Mr. Getty made ham a very generous offer that he couldn't refuse and he finally stopped. 

Thu, 01/29/2015 - 16:19 | 5721648 Carpenter1
Carpenter1's picture

Yep, cause as everyone knows(or is now finding out)shale is a cash incinerator, pure and simple.

Thu, 01/29/2015 - 16:08 | 5721578 101 years and c...
101 years and counting's picture

"As supplies dwindle"  um, supplies need to stop surging before they dwindle.  new all time high inventory in the latest report.

Thu, 01/29/2015 - 16:20 | 5721652 El Vaquero
El Vaquero's picture

There will be a lag time on that, or prices will go up before hand because of some other yet unforeseen event.  While it is not profitable to drill a lot of new wells right now, the ones that have been drilled will continue to produce.  This means that, when you go to the Bakken and Eagle Ford, you have to wait for that ~60% first year depletion rate to make up for the glut in the market that was spurred by ZIRP.  Once we find out how many wells aren't being drilled that otherwise would have been had crude stayed at ~$100/bbl, we can figure out pretty quickly when that glut will be gone.  The other option is that, even before production comes down an appreciable amount, the bankruptcies will spur higher prices. 


Basically, we need to wait until these lower prices break things, one way or another.  Or QEULTRA begins. 

Thu, 01/29/2015 - 16:07 | 5721583 NOTW777
NOTW777's picture

get some $DUG

Thu, 01/29/2015 - 16:20 | 5721587 JungleCat
JungleCat's picture

"As supplies dwindle". To clarify: that could be 2-5 years. To me, short term is still one year, medium term 5-10 and long-term 25 years. I know how quaint that may sound.

Thu, 01/29/2015 - 16:25 | 5721691 El Vaquero
El Vaquero's picture

If we get a 50% reduction in the number of wells being drilled in the shale plays, we could see a 30% reduction in tight oil production within 12 months.

Thu, 01/29/2015 - 16:04 | 5721550 NoDebt
NoDebt's picture

"now an absolutely ridiculous, mindblowing 23x P/E"

Based on that multiple, Cipotle Mexican Grill or maybe Netflix would need to fall 90%.

Begin holding your breath.

Thu, 01/29/2015 - 16:08 | 5721574 knukles
knukles's picture

I always get gas form Cipotle.

Thu, 01/29/2015 - 16:15 | 5721621 Soul Glow
Soul Glow's picture

Cut your production and stop contributing to the over supply.

Thu, 01/29/2015 - 16:15 | 5721635 SheepDog-One
SheepDog-One's picture

You need to buy you some 'Chipotle-Away'.....'courtesy South Park'

Thu, 01/29/2015 - 16:18 | 5721655 Beam Me Up Scotty
Beam Me Up Scotty's picture

How about AMZN??

Thu, 01/29/2015 - 16:12 | 5721606 Carpenter1
Carpenter1's picture

Reason #942,008 why you don't use 3 month old P/E numbers of companies whose profits have collapsed. Irrelevant.

Thu, 01/29/2015 - 16:18 | 5721643 knukles
knukles's picture

That's right!  And even better than using stale old numbers, because even the dimmest and doltish can see right through that charade, like Goldman, you just make up a whole bunch of shiny new happy numbers from fresh rainbow colored unicorn poop.
Remember kiddies.  Uncle Lloyd's whole business is to sell something to somebody else for more than he paid for it.
Some day I'm gonna retire to the land of unicorn poop and live happily ever-after. 

Thu, 01/29/2015 - 16:16 | 5721628 Dr. Engali
Dr. Engali's picture

I usually hold my breath after eating Chipolte. That stuff can leave a nasty stench in the toilet bowl.

Thu, 01/29/2015 - 16:22 | 5721661 LawsofPhysics
LawsofPhysics's picture

You beat me to it!!  When the fuck has the P/E mattered in this centrally planned shit show?!?!

Look at some of those fucking bullshit tech stocks that haven't made a fucking profit yet!!  What about BANKS?

At least I can understand the value of the energy and commodity chemicals these companies provide.  I haven't found anyone who can explain the value of a fucking derivative yet!!!

Thu, 01/29/2015 - 16:28 | 5721723 El Vaquero
El Vaquero's picture

Derivatives:  Confusing pieces of paper that bankers use as leverage to make the government take your shit and give it to the bankers.  Their leverage comes from their ability to bring the financial system to a screeching halt and break supply chains.  In short, he who can destroy a thing, controls that thing.  The spice must flow.

Thu, 01/29/2015 - 19:22 | 5722585 lasvegaspersona
lasvegaspersona's picture

As world savings increased they were all being stuffed into dollar based assets. If that had continued inflation in those assets would have been here years ago. They came up with derivatives to store wealth (it is all paper anyway) and delay the rise in asset prices as well as commodities. We are watching the failure of the systems ability to hide the fact that there is far more paper wealth than there is real shit to buy. Collapse comes when a significant body of wealth holders decides to transfer from paper to real stuff. When the decision that paper gold is not better than physical gold is reached...well that's one thing that could do it.

Thu, 01/29/2015 - 16:36 | 5721769 Skateboarder
Skateboarder's picture

Engagement of


Thu, 01/29/2015 - 16:05 | 5721556 tjeffersonsghost
tjeffersonsghost's picture

Not if you're a refiner.  Oil may be plummeting but gas prices are not falling near the % as oil.  Refiners are still making money, tons of it because of that.

Thu, 01/29/2015 - 16:08 | 5721582 knukles
knukles's picture

Margin Expansion is a Beautiful Thing

Thu, 01/29/2015 - 16:04 | 5721561 franzpick
Thu, 01/29/2015 - 16:09 | 5721595 drivenZ
drivenZ's picture

because everyone knows oil will go up at some point. One announcement out of the Saudi's could cause a price spike. So pick a few mid-larger cap, lower levered energy companies and hold on for the ride.   

Thu, 01/29/2015 - 16:14 | 5721616 Carpenter1
Carpenter1's picture

If the Saudis wanted to increase the price, they would've done it long ago. If anything, they might want to crash it to $20 to speed up the process of destroying shale.

Thu, 01/29/2015 - 16:18 | 5721632 Alea Iactaest
Alea Iactaest's picture

Paging Capt. Obvious: Oil leads to military conflict.

"[T]he likelihood of a third-party intervention increases when (a) the country at war has large reserves of oil, (b) the relative competition in the sector is limited, and (c) the potential intervener has a higher demand for oil."

When previous researchers looked at intervention, their focus generally has been on security or humanitarian concerns. There was little focus on economic considerations.

The current research found the UN intervened in 2 out of 3 civil wars in the latter half of the 20th century, not necessarily for humanitarian reasons. This quote regarding the Middle East nails it:

"[M]ilitary and political support is at least in part motivated to ensure that countries on the Arabian Peninsula maintain crude oil prices within a target range."

Source: http://jcr.sagepub.com/content/early/2015/01/23/0022002714567952.abstrac...

Thu, 01/29/2015 - 16:39 | 5721779 Karlus
Karlus's picture

>> they might want to crash it to $20 to speed up the process of destroying shale.


I would guess that at $45 they are destroying shale along with Mother Russia....dropping to $20 makes no sense. Its like spraying RAID on the ants and then snorting a couple sprays along with them.


I would guess that they never really wanted to get this far down, and are prob not going to do anything until their meeting in June.

Thu, 01/29/2015 - 16:11 | 5721598 Bill of Rights
Bill of Rights's picture
EU Plan To Install A Tracking Computer In Every Car To Tax Miles



Thu, 01/29/2015 - 16:19 | 5721647 Sudden Debt
Sudden Debt's picture

Yes... in Europe we’re great at planning stuff!


Thu, 01/29/2015 - 16:20 | 5721662 knukles
knukles's picture

So does CA.  And as CA goes, so goes the Nation.
Some day every woman will look and taste like Nancy Pelosi

Thu, 01/29/2015 - 16:21 | 5721673 Bill of Rights
Bill of Rights's picture

I just threw up in my mouth..

Thu, 01/29/2015 - 16:24 | 5721680 Bangalore Torpedo
Bangalore Torpedo's picture

Excuse me while I throw up in my mouth.

Thu, 01/29/2015 - 16:32 | 5721745 El Vaquero
El Vaquero's picture

Shut up Knucks!  Just SHUT UP!  I want no part of that future.  We need a paradox.  One that sucks California, or at least Pelosi out of time and space.  Some things just should not exist. 

Thu, 01/29/2015 - 16:41 | 5721797 Karlus
Karlus's picture

>>every woman will look and taste like Nancy Pelosi

I'm dreaming about a Pelosi "split" to clear out the sinuses. Maybe a Ruth Ginsberg flavor too.

Thu, 01/29/2015 - 16:44 | 5721826 CCanuck
CCanuck's picture

I don't want to know, how you know what that Hag tastes like....

Fuck that is a vile thought...

Fuck you knucks you're one disturbed dude!



Thu, 01/29/2015 - 16:13 | 5721611 HowdyDoody
HowdyDoody's picture

Surely in a fakeonomy, both can be true (for some meaning of true) at the same time.

Thu, 01/29/2015 - 16:12 | 5721613 Soul Glow
Soul Glow's picture

Mean reversion is a bitch.

Thu, 01/29/2015 - 16:19 | 5721646 Dr. Engali
Dr. Engali's picture

So is Hillary, and she's mean as well.

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