Oil Industry Bankruptcies: Coming To Your Portfolio?

| September 8, 2015 | 0 Comments

oil industryAre Oil Industry Bankruptcies Coming To Your Portfolio?

No doubt about it, the recent 20% jump in crude prices is a welcome sign.  With West Texas Intermediate (WTI) back in the mid-$40 range, there’s a good possibility late August’s stunning rally set a bottom in the market.

But whatever you do, don’t think the worst is over for the US oil exploration industry…

You see, loan redetermination season is about to hit.  That’s when oil explorers have the value of their oil reserves reexamined by the banks holding their loans.  Since the price of WTI is down 53% since last year at this time, many producers will likely find their reserve values have been cut in half.

That creates a big problem…

Since oil reserves are the key asset explorers take out loans or lines of credit against, a big drop in reserve value will create even more financial stress on heavily indebted producers.  Borrowing bases (a big source of oil exploration liquidity) will be slashed to reflect the new value of their properties.

But that’s just the start of the problems many explorers are about to experience…

A large swath of the US oil industry has been protected from the crude price downturn due to hedging activity.  Fact is, many oil explorers have been selling crude at $70 a barrel or higher this year thanks to hedges created many months earlier.

Trouble is, those high priced hedges are about to expire.  And once they do, oil companies will no longer be able to sell their product at an inflated price.

Oil Industry Bankruptcies: Which Companies Are Most At Risk?

While asset redetermination affects the oil exploration industry as a whole, it’s the small, highly indebted producers that will feel the most pain.

You see, once credit lines are slashed, it gets much harder for financially stressed explorers to access essential operating capital.  And since they’ll start selling oil at current market prices, cash flows will dwindle quickly.

As a result, the odds drastically increase of small producers being sold for pennies on the dollar- or going bankrupt.

Is there any hope?

For most small-cap oil companies, it’s a dire financial situation that can only be resolved by a return to higher oil prices.

While the outlook is grim, let’s be perfectly clear on something…

Each oil producer’s financial situation is unique, so it’s very hard to predict which will go bankrupt and which won’t.

What I can tell you is this…

Many investors mistakenly believe investing in oversold small-cap oil producers is a great bet right now.

After all, with the share price of many companies down 70%- 90% in the past year, you can pick them up on the cheap.  All you have to do is just wait for the inevitable return to higher prices- right?

While that scenario is possible, it has huge risks attached.

Fact is, investing in the small-cap oil industry is akin to walking through a minefield right now.  One wrong step and you may find yourself holding onto worthless shares of a once-promising rebound story.

Remember, this isn’t the first time I’ve warned you about the huge risks in the small-cap oil exploration space.  In March 2015, I supplied some easy steps to help you avoid the worst companies.

And just last month I told you about five oil producers to avoid at all costs.

Bottom line…

While the bottom for crude oil prices may be at hand, there’s still a long road of financial pain ahead for many in the oil industry.

Until Next Time,

Justin Bennett

BIO:  Justin Bennett is the head commodity research analyst at Commoditytradingresearch.com.  With over a decade of real world trading experience, he finds ways for you to consistently profit from movements in commodities and the companies producing them.  Sign up for our free reports and commodity newsletter at https://commoditytradingresearch.com/free-sign-up.

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Category: Energy

About the Author ()

Justin Bennett is the editor of Commodity ETF Alert, an investment advisory focused on profiting from the ebb and flow of important commodities via ETFs. The commodity veteran and options specialist is also a regular contributor to the Dynamic Wealth Report. Every week, Justin shares his thoughts with our readers on a variety of commodity-related topics. Justin is also a frequent contributor to Commodity Trading Research’s free daily e-letter. And he’s the editor of another highly successful and popular investment advisory, the Options Profit Pipeline.