ASX oil companies have been dominating the share market news for the past few weeks – and not in a good way.
Oil producers like Woodside Petroleum Limited (ASX: WPL) and Beach Energy Ltd (ASX: BPT) have been absolutely smashed since the start of this ASX bear market back in February, with Woodside going from $34 to $19.80 today, and Beach falling from $2.50 to $1.29.
Adding to the general market pessimism has been a recent decision by OPEC nations like Saudi Arabia to start an oil price war with Russia by ramping up crude production. This has resulted in a massive global glut of crude – pushing the price of crude to historical lows below US$20 a barrel in recent weeks.
This is, of course, terrible news for oil stocks and comes at the worst possible time. Oil companies are very capital intensive and so typically employ a lot of debt in their operations. Right now, credit is tightening across the global economy, and many creditors would probably be reluctant to lend additional money to oil companies that will struggle to break even when crude is at US$20 a barrel.
Having said that, there might be some reasons to look into the oil sector right now.
Are ASX oil shares too cheap to ignore?
The first thing to keep in mind for oil shares is their cyclical nature. The price of oil (and thus, the price of oil companies) is volatile, but is also influenced by global economic growth. When growth is high, oil prices typically climb, and vice versa. Right now, the global economy is in the deep freeze, and so demand for oil is also frosty.
But this won't last forever. Oil will eventually recover back towards its long-term average price, and when this happens, I would expect a sharp recovery in ASX oil shares like Woodside and Beach.
In saying that, there is still significant risk here. How long this coronavirus-induced economic shutdown will last is a question we all want answered, but is still very unclear right now. And if oil falls back below US$20 a barrel and stays there for months, bankruptcy is a real possibility for some ASX oil producers.
I'm also not bullish on this commodity's long-term prospects, considering the rise of electric vehicles and concerns over global warming and climate change.
Foolish takeaway
I think a thorough understanding of the oil sector is fully necessary if you want to make a high-risk, high reward play here. It's not a bet I'm willing to put money behind, but that doesn't mean there isn't value here for those who know how to look!
