Oil, wow, WTF happened to all of the oil bugs on this site?

[goldfinger]

http://www.reuters.com/article/us-usa-oil-productivity-idUSKCN0UP29X20160111?feedType=RSS&feedName=GCA-Commodities&utm_source=dlvr.it&utm_medium=twitter&dlvrit=1391616

http://www.cnbc.com/2016/01/11/half-of-us-shale-drillers-may-go-bankrupt-oppenheimers-gheit.html

 

116K barrels/day/month of lost production is not a small amount. We probably lost more than that in Dec alone.

[Uccmal]

I have a different view.  There is no such thing as "intrinsic value".  It isn't like you can take an object, look at it under a microscope and see the value particles.  There is only market value and only one way to determine it: try to sell it.  For a unique item, such as a specific piece of real estate, you can try to estimate the value, but you don't really know what the value is until you find a buyer.  Maybe the value to you is larger than its value to anyone else and thus it won't sell.  For a commodity, such as gold or oil, it is easy to determine a value, because identical items are being traded constantly and you can see what they are trading for.    The theory that oil or gold doesn't have any "intrinsic" value is true, because nothing does.  They certainly have market value though.

 

Or there is that.  At the moment oil is the single most valuable product on earth.  Without it there is no sustaining anything that resembles our life style simce the 1700s, and most of is would be dead, or would never have been born.

[dorsiacapital]

I have a different view.  There is no such thing as "intrinsic value".  It isn't like you can take an object, look at it under a microscope and see the value particles.  There is only market value and only one way to determine it: try to sell it.  For a unique item, such as a specific piece of real estate, you can try to estimate the value, but you don't really know what the value is until you find a buyer.  Maybe the value to you is larger than its value to anyone else and thus it won't sell.  For a commodity, such as gold or oil, it is easy to determine a value, because identical items are being traded constantly and you can see what they are trading for.    The theory that oil or gold doesn't have any "intrinsic" value is true, because nothing does.  They certainly have market value though.

 

I would distinguish between oil and gold. Oil is a resource that people need for the functioning of the economy; gold is, based on tradition, generally a currency hedge. Gold does have functional usages for jewelry and such, but it could be replaced by silver in a way that oil, at least as of now, can not.

 

There's various interviews with Buffet where he puts gold on one side and productive assets (farms, exxon mobil) on the other side that I think express this point very nicely

 

http://www.gurufocus.com/news/239678/gold-vs-farmland-vs-exxon-mobil--buffett-makes-ense-of-it-all

 

 

 

 

[rkbabang]

I have a different view.  There is no such thing as "intrinsic value".  It isn't like you can take an object, look at it under a microscope and see the value particles.  There is only market value and only one way to determine it: try to sell it.  For a unique item, such as a specific piece of real estate, you can try to estimate the value, but you don't really know what the value is until you find a buyer.  Maybe the value to you is larger than its value to anyone else and thus it won't sell.  For a commodity, such as gold or oil, it is easy to determine a value, because identical items are being traded constantly and you can see what they are trading for.    The theory that oil or gold doesn't have any "intrinsic" value is true, because nothing does.  They certainly have market value though.

 

I would distinguish between oil and gold. Oil is a resource that people need for the functioning of the economy; gold is, based on tradition, generally a currency hedge. Gold does have functional usages for jewelry and such, but it could be replaced by silver in a way that oil, at least as of now, can not.

 

There's various interviews with Buffet where he puts gold on one side and productive assets (farms, exxon mobil) on the other side that I think express this point very nicely

 

http://www.gurufocus.com/news/239678/gold-vs-farmland-vs-exxon-mobil--buffett-makes-ense-of-it-all

 

Sure I'll be happy to trade you an ounce of oil for an ounce of gold, as many times as you wish to.  The fact is, oil is in demand now because of its usefulness for energy.  If we all had fusion reactors in our basement, oil would be worth much much less.  We'd still use it to make plastics and other substances, but after molecular nanotech is perfected we will likely not even need it for that.

 

 

[Hawks]

That is one huge "if" in your argument.

[rkbabang]

That is one huge "if" in your argument.

 

Of course, but my point was that there is nothing "intrinsic" about the value of oil.  It is valuable because we currently have a high demand use for it.  When it is no longer as useful it will no longer be as valuable.  There is no inherent property in anything that makes it "intrinsically" valuable.  The same is for companies.  What people call the "intrinsic" value of Nike is really only derived from the market value of its products and assets.  If the market value of those things were ever to decline there is nothing intrinsic in the Nike corporation which would maintain its value regardless.  Nothing has an intrinsic value. The same with gold.  Maybe over the long term algorithm/blockchain backed currencies like bitcoin will reduce the market value of gold permanently.

 

[opihiman2]

What's it going to take for people to realize that they were dead wrong? The game changed, move on. :) "If if if..." isn't an investment case, the price is what it is.

[Cardboard]

API reported last night that U.S. oil inventories have declined 3.9 million barrels and that is the second week in a row that they are declining with over 5 million the prior week. These inventory numbers are pretty important since when oil plunged to $10 a barrel in the late 90's, storage was full. Does not seem like we will get there, so this whole argument about excesses of 1 to 1.5 million barrels a day for global production seems crazy. The IEA was even suggesting 3 million barrels a day surplus in early summer. If these numbers had any basis in reality, all storage tanks worldwide would have been filled up by now.

 

http://www.marketwatch.com/story/api-says-us-crude-oil-inventories-fell-last-week-reports-2016-01-12

 

Now the problem is that inventories of gasoline and distillate (fuel) have increased more than the amount of oil drawn or similar to the prior week.

 

El Nino is certainly playing a part with the warmer weather which would reduce distillate consumption but, it looks like that this has started to normalize. Gasoline is more worrisome IMO. A recession or worst is certainly the concern with oil going forward. I think that supply is rapidly coming in line and it is worth remembering that the Saudis themselves did cut production in 08/09 to align with demand.

 

Now, it will be interesting to see what EIA reports at 10:30. These guys have stated publicly that oil production from shale will be declining something like 110,000 barrels a month for January and February. If U.S. production is still above 9.2 million barrels a day in their report then something is truly weird.

 

In any case, production is coming down and even the producers with the most bravado are forecasting declines for 2016. Being flat is now considered the gold standard.

 

Cardboard

[ni-co]

What Marks is saying is that oil doesn't have an intrinsic value. Oil is not generating cash flows. There can't be such a thing like a margin of safety in oil.

 

LOL. Of course oil has intrinsic value: without oil nobody goes anywhere. If you believe that businesses have intrinsic value - and I guess you do because you mention "cash flows" - then you should realize that without oil pretty much all your businesses have no intrinsic value either (there are few exceptions perhaps).

 

It's amazing how for people with a single hammer ("cash flows") everything looks like a nail...  ::)

 

Beat me to it Jurgis.  If anything the value of oil is the easiest intrinsic value to find.  It is definitely somewhere above the low prices of the late 1990s.  If we assume some increase in E&P costs and inflation the intrinsic value should be right where we are at today, plus or minus a few bucks. 

 

Or you could take the difficult route and estimate the cost of all oil infrastructure in the world, the barrles produced, with the appropriate depletion rates and end up with 30 plus or minus a few bucks.

 

So you two value investors: What is the fair price of oil? I.e. how do you calculate your margin of safety?

 

It's amazing how for people with a single hammer ("cash flows") everything looks like a nail...  ::)

 

Funny enough, that's quite what I thought when I read about the "margin of safety" in oil.

[watsa_is_a_randian_hero]

So you two value investors: What is the fair price of oil?

 

I would argue long-run FV of oil equals the price at which the marginal supply projects have an IRR = to cost of capital.

 

Right now we are far below FV if the cost to extract the marginal barrel is in the $60's...Capitalists are pulling back on capex/exploration, but I am beginning to think it may require a country like Russia or Venezuela to go BK before they'll stop investing in NPV negative projects.  Eventually it will correct. 

[ni-co]

I had to look a bit for it but in a 2014 Bloomberg interview Howard Marks made his (and my) point much clearer:

http://www.bloomberg.com/news/videos/2014-12-16/russia-rule-of-law-is-concern-for-investors-marks-says-video

(starting around the 4 min. mark).

[Jurgis]

So you two value investors: What is the fair price of oil? I.e. how do you calculate your margin of safety?

 

LOL, nice switcheroo there. You realize that your new question is total turnaround from your previous claim that oil has no intrinsic value?

 

The fair price of oil is obviously the price paid right now in open market. But that's again not what you really wanted to know, is it?

[ni-co]

So you two value investors: What is the fair price of oil? I.e. how do you calculate your margin of safety?

 

LOL, nice switcheroo there. You realize that your new question is total turnaround from your previous claim that oil has no intrinsic value?

 

The fair price of oil is obviously the price paid right now in open market. But that's again not what you really wanted to know, is it?

 

Well, indeed, I don't realize this because those were rhetoric questions. There is no answer to those questions – which was my point. Look up the definition of intrinsic value anywhere. There is no intrinsic value of commodities – which is exactly what Howard Marks is saying. I don't say that commodities are worthless! But they can't be valued intrinsically. This is what you can do however with a bond or a stock.

 

With commodities it's like you said: There is only a market price determined by supply and demand – nothing else. There is only price action and no underlying value you can compare the market price to. But if you have only a price and not a value of something you can't calculate a margin of safety.

 

What you can do is trying to guess where supply and demand are going to go and then speculate on the future price movement. But this has nothing to do with intrinsic value.

 

[Packer16]

Although you cannot calculate an intrinsic value, you can qualitatively divide commodities into those who don't go away (can be recycled, like copper, gold & silver) or those who do (oil & gas).  The former have an every increasing supply and thus have a downward bias in real terms.  The later have the opposite characteristics.

 

Packer

[Uccmal]

So you two value investors: What is the fair price of oil? I.e. how do you calculate your margin of safety?

 

LOL, nice switcheroo there. You realize that your new question is total turnaround from your previous claim that oil has no intrinsic value?

 

The fair price of oil is obviously the price paid right now in open market. But that's again not what you really wanted to know, is it?

 

Well, indeed, I don't realize this because those were rhetoric questions. There is no answer to those questions – which was exactly my point. Look up the definition of intrinsic value anywhere. There is no intrinsic value of commodities – which is exactly what Howard Marks is saying. I don't say that commodities are worthless! But they can't be valued intrinsically. This is what you can do however with a bond or a stock.

 

With commodities it's like you said: There is only a market price determined by supply and demand – nothing else. There is only price action and no underlying value you can compare the market price to. But if you have only a price and not a value of something you can't calculate a margin of safety.

 

 

Nico, your getting all philosophical about this intrinsic value.  Thats not math.  All products are determined by supply and demand.  Yours stocks or bonds have no value if they aren't backed up by the cash flows.  Take Apple.  Can you give me an intrinsic value on Apple if the Iphone, Ipad, and ecosystem suddenly loses favour?  Apple's would be zero.  Oil cannot reach zero, even in a communist or pire socialist system.

 

The real question is at what value should oil trade at to provide for societies' needs, and to make some profit for those who develop oil fields. I would say just below the cost of the most expensive 5% of production, perhaps $50, in the current environment.  Lower after deflation hits the sector. 

[Jurgis]

@ni-co:

 

You are twisting my words to get to your intended result.

 

Any "intrinsic" (if you choose to use that term) value of stock or bond is based on your expectations of how the business goes in the future. If you take commodity, equivalent thing would be expectations on the future price of said commodity based on future supply and demand. Are you gonna turn around again and claim that this is somehow different from your "intrinsic value" expectations of a business performance?

 

Anyway this discussion is pointless, since nobody here is investing in oil. People are investing in stocks and bonds of oil companies that you yourself said do have "intrinsic" value.

 

Not that I care what you think. If you don't like investing in commodity companies, nobody's gonna force you to start loving it.

Though I find it funny that you see no "intrinsic" value in oil, but apparently you see (non-intrinsic?  :P  ::)  :o ) value in bitcoin.

[ni-co]

Nico, your getting all philosophical about this intrinsic value.  Thats not math.  All products are determined by supply and demand.  Yours stocks or bonds have no value if they aren't backed up by the cash flows.  Take Apple.  Can you give me an intrinsic value on Apple if the Iphone, Ipad, and ecosystem suddenly loses favour?  Apple's would be zero.  Oil cannot reach zero, even in a communist or pire socialist system.

 

I'd argue that Apple wouldn't be a zero because it has +100bn in cash on its balance sheet. This is cash you, as a (controlling) shareholder of the company, can access. Stocks aren't a great example for IV because you usually don't have control and cash flows are uncertain. But take treasuries as an example. You can't argue that a treasury bond paying you $100 tomorrow is worth $50. You can't do this kind of calculation with commodities.

 

I think this is not only a philosophical question but an important insight, because it's a trap for value investors and the reason I don't like investing into commodity companies either.

 

@ni-co:

 

You are twisting my words to get to your intended result.

 

Any "intrinsic" (if you choose to use that term) value of stock or bond is based on your expectations of how the business goes in the future. If you take commodity, equivalent thing would be expectations on the future price of said commodity based on future supply and demand. Are you gonna turn around again and claim that this is somehow different from your "intrinsic value" expectations of a business performance?

 

Anyway this discussion is pointless, since nobody here is investing in oil. People are investing in stocks and bonds of oil companies that you yourself said do have "intrinsic" value.

 

Not that I care what you think. If you don't like investing in commodity companies, nobody's gonna force you to start loving it.

Though I find it funny that you see no "intrinsic" value in oil, but apparently you see (non-intrinsic?  :P  ::)  :o ) value in bitcoin.

 

I think I made my point clear. There is a difference between the market price of something (and the prediction thereof) and cash that you have access to when you are the 100% owner. You are the 100% of one gallon of oil. What do you have access to? You have access to one gallon of oil. So, now imagine you were the sole owner of Apple, what do you have access to? Not only to 100% of Apple stock (which would be the equivalent to a gallon of oil) but to the cash Apple has in its accounts and the future cash Apple will earn. This is fundamentally different from just owning the commodity. 

 

And, no, I don't think bitcoin has intrinsic value. Bitcoin – like gold – has zero intrinsic value. It has exactly the value people agree to give it. I'm looking at this from a risk/reward perspective – but that's a whole other discussion.

[Jurgis]

There is a difference between the market price of something (and the prediction thereof) and cash that you have access to when you are the 100% owner. You are the 100% of one gallon of oil. What do you have access to? You have access to one gallon of oil. So, now imagine you were the sole owner of Apple, what do you have access to? Not only to 100% of Apple stock (which would be the equivalent to a gallon of oil) but to the cash Apple has in its accounts and the future cash Apple will earn. This is fundamentally different from just owning the commodity. 

 

Just to be clear: so you are saying that a company that is not cash flow positive has no "intrinsic value" ?

 

Edit: I'll add the following to this:

 

Stocks aren't a great example for IV because you usually don't have control and cash flows are uncertain.

 

So stocks are also a bad example of "intrinsic value"? I guess I am totally lost of what you are trying to argue. :)

[Jurgis]

take treasuries as an example. You can't argue that a treasury bond paying you $100 tomorrow is worth $50. You can't do this kind of calculation with commodities.

 

Depends on which country's treasury this is, no?

 

You seem to insist that there are only AAA+ rated companies and treasuries and they are the only ones which have "intrinsic value" . What if the treasury is issued by Ukraine or Zimbabwe or Palestinian Authority? Does it have "intrinsic value"? Is its "intrinsic value" higher/lower compared to "intrinsic value" of barrel of oil?

[writser]

I think I made my point clear. There is a difference between the market price of something (and the prediction thereof) and cash that you have access to when you are the 100% owner. You are the 100% of one gallon of oil. What do you have access to? You have access to one gallon of oil. So, now imagine you were the sole owner of Apple, what do you have access to? Not only to 100% of Apple stock (which would be the equivalent to a gallon of oil) but to the cash Apple has in its accounts and the future cash Apple will earn. This is fundamentally different from just owning the commodity.

 

What point are you trying to make? Maybe oil doesn't have an 'intrinsic value' but you can sell your gallon of oil for cash, either in the spot or forward market, correct? If cash has intrinsic value and you can exchange X for Y cash then X should have the same value as Y, correct? Does cash even have an intrinsic value according to your theories? Why is Apple stock "equivalent" to a gallon of oil? You are absolutely not making any sense.

[Uccmal]

Nico, your getting all philosophical about this intrinsic value.  Thats not math.  All products are determined by supply and demand.  Yours stocks or bonds have no value if they aren't backed up by the cash flows.  Take Apple.  Can you give me an intrinsic value on Apple if the Iphone, Ipad, and ecosystem suddenly loses favour?  Apple's would be zero.  Oil cannot reach zero, even in a communist or pire socialist system.

 

I'd argue that Apple wouldn't be a zero because it has +100bn in cash on its balance sheet. This is cash you, as a (controlling) shareholder of the company, can access. Stocks aren't a great example for IV because you usually don't have control and cash flows are uncertain. But take treasuries as an example. You can't argue that a treasury bond paying you $100 tomorrow is worth $50. You can't do this kind of calculation with commodities.

 

I think this is not only a philosophical question but an important insight, because it's a trap for value investors and the reason I don't like investing into commodity companies either.

 

@ni-co:

 

You are twisting my words to get to your intended result.

 

Any "intrinsic" (if you choose to use that term) value of stock or bond is based on your expectations of how the business goes in the future. If you take commodity, equivalent thing would be expectations on the future price of said commodity based on future supply and demand. Are you gonna turn around again and claim that this is somehow different from your "intrinsic value" expectations of a business performance?

 

Anyway this discussion is pointless, since nobody here is investing in oil. People are investing in stocks and bonds of oil companies that you yourself said do have "intrinsic" value.

 

Not that I care what you think. If you don't like investing in commodity companies, nobody's gonna force you to start loving it.

Though I find it funny that you see no "intrinsic" value in oil, but apparently you see (non-intrinsic?  :P  ::)  :o ) value in bitcoin.

 

I think I made my point clear. There is a difference between the market price of something (and the prediction thereof) and cash that you have access to when you are the 100% owner. You are the 100% of one gallon of oil. What do you have access to? You have access to one gallon of oil. So, now imagine you were the sole owner of Apple, what do you have access to? Not only to 100% of Apple stock (which would be the equivalent to a gallon of oil) but to the cash Apple has in its accounts and the future cash Apple will earn. This is fundamentally different from just owning the commodity. 

 

And, no, I don't think bitcoin has intrinsic value. Bitcoin – like gold – has zero intrinsic value. It has exactly the value people agree to give it. I'm looking at this from a risk/reward perspective – but that's a whole other discussion.

 

Your argument is falling apart.  Treasuries can easily drop  50% in a flash.  What would you pay for a promise by Saudi Arabia to pay you back with interest?  As in, what is the  intinsic value of a 2016 10 year bond issued by Saudi Arabia, with a 4% yield guaranteed by the full extent of the Saudi constituiton, and legal system.  US treasuries are only a safe haven due to people's perceptions of the US as a dynamic and safe country.  There is nothing intrinsic about the adjectives I am using: safe, dynamic, perception, etc. 

 

Apple still has no intrinsic value under my scenario, even with 100 bn, on the balance sheet because management just spent the 100 bn overpaying for America Online.  Its happened before.

 

All assets are fluid and subject to change.  You can only get by this by assuming something has value based on historical precedence, and existing supply and demand. Intrinsic value, like book value is a farce.  There are always alot of intangibles on a balance sheet.  We can only make a reasonable guess at oil's value.  I am saying it is the single most important product on Earth - nothing else is more important at this time.  That gives it some value.  Human nature suggests that providers should profit from its production.  Therefore, the value of oil should be in the range of just below the top few percent in terms of production costs - some idiot is always willing to invest in a new project above that cost.  My guess is 50-55 USD per bbl.

[ni-co]

My point is that you guys are confusing price and value. I don't see falling apart anything.

 

I don't really think that it matters which country's treasury it is as long as the treasury is traded in this country's currency and the coupon is in the same currency but let's say it's the US. Let's say the bond falls in a flash crash 80% over night, does this change anything regarding the fact that you will be paid $100 tomorrow?

 

Don't you see that there's a difference between an income producing asset and a commodity? With all income producing assets there is a difference between price and value. With every commodity there just isn't. Its price is its value.

 

The kernel of my argument is that what you guys are doing is trying to predict market price movements. Feel free to do that but it has nothing to do with IV or MOS.

 

Maybe we should just agree to disagree.

 

 

[Jurgis]

My point is that you guys are confusing price and value. I don't see falling apart anything.

 

I don't really think that it matters which country's treasury it is as long as the treasury is traded in this countries currency and the coupon is in the same currency but let's say it's the US. Let's say the bond falls in a flash crash 80% over night, does this change anything regarding the fact that you will be paid $100 tomorrow?

 

If bond defaults, you will not be paid $100 tomorrow.

 

Don't you see that there's a difference between an income producing asset and a commodity? With all income producing assets there is a difference between price and value. With every commodity there just isn't. Its price is its value.

 

This is completely false if you take time into account.

 

If you have a Picasso (not the board member, but the painting ;)), you have a reasonable expectation that its value will increase over time.

If you have a house in Manhattan, you have a reasonable expectation that its value will increase over time even if you don't ever rent it.

 

Edit: OK, I agree that price and value are not the same. However, this does not mean that price and value can only differ for income producing asset. As an extreme, if you find an antique for $1 in yard sale, its value does not magically drop to $1. And sure as heck if you are an antique expert, there is a huge MOS if you buy that antique for $1. There are people who make a living from this without much risk if at all.

 

The kernel of my argument is that what you guys are doing is trying to predict market price movements. Feel free to do that but it has nothing to do with IV or MOS.

 

Maybe we should just agree to disagree.

 

Did you even read my answer where I said that nobody here is buying oil.

 

So if I buy shares of oil company that is trading below net cash per share, is that gonna satisfy your crusade for "intrinsic value" , MOS, etc.?

 

Overall, though, yes, we disagree, nobody forces you to buy oil, oil companies, Zimbabwean treasuries or anything else that you consider to have no intrinsic value. Have fun and good luck.

[investor-man]

Time to take a chill pill guys  8)

[Hawks]

Cardboard

Would be interested in your take on the latest EIA numbers.