Oil prices have remained subdued in recent years as the impact of low global economic growth, increased shale oil production and elevated conventional production levels have contributed to a ‘perfect storm’ for the industry.
Attempts to drive prices lower have had a significant impact on the income of members of OPEC, the cartel of oil-producing countries.
Oil inventories have increased following low demand, while investment has decreased as companies struggle to justify the outlay at current prices.
As the below chart shows, prices for the two main oil benchmarks – Brent and West Texas Intermediate – have come under significant pressure over the past three years.
Oil futures index performance over 3yrs
Source: FE Analytics
However, OPEC members led by the world’s largest producer Saudi Arabia agreed to a cut in production levels at the end of November, paving the way for a recovery in oil prices.
The impact of the decision has been notable as energy stocks have risen on news of a potential slowdown in production levels. Indeed, energy indices have risen by more than 40 per cent year-to-date.
Fund managers focused on the energy space will be best placed to take advantage of any uptick in oil prices in the near future.
Performance of FTSE World Oil & Gas vs FTSE All Share Oil & Gas YTD
Source: FE Analytics
While funds have struggled over the past three years, the oil price cut and signs of a more coordinated approach by OPEC has had a positive impact on performance.
Among the strongest-performing funds over the past year have been the BlackRock GF World Energy, GS North American Energy & Energy Infrastructure Portfolio and LO Global Equity.
In 2016 the LO Global Energy fund is up by 66.40 per cent but has registered a loss of 6.32 per cent over three years.
Similarly, the Artemis Global Energy fund is up by 45.46 per cent this year, but has lost 18.68 per cent over three years. The best energy-focused performer over three years is the BlackRock World Energy fund with a return of just 0.24 per cent.
Things may start looking up for fund managers, however. Richard Robinson, portfolio manager of the Ashburton Global Energy fund, says recent oil prices have not been sustainable.
The manager says the OPEC agreement had signalled that some of the cartel’s major stakeholders were willing to increase cooperation over production levels.
“What they came through with was transparent,” says Robinson. “Saudi Arabia had concended to Iran, which was quite a big step.”
He says many of the OPEC producers and non-members of the cartel – such as Russia – are likely to adhere to the proposals to reduce production.
Tom Holl, portfolio manager of the BlackRock Commodities Income Trust, says that the deal had been “better than we anticipated” and would bring forward rebalancing of the sector by six months.
He said: “We remain constructive on the outlook for the energy sector. For some time, we have believed the rebalancing in the oil market was underway anyway, and action from OPEC simply accelerates this.
“We believe that over the medium-term, US shale alone will not be enough for global production to continue meeting growing global demand, and oil prices will need to rise to a level which incentivises investment in offshore, deep-water production.”
He added: “Over the next one to two years, we see oil prices moving upwards and this, along with cost reduction efforts, should lead to improving returns for the energy sector.”
The election of Donald Trump as US president could also signal more positive times for the oil industry. During the campaign, Trump signalled that he could roll back on initiatives to promote cleaner energy and reduce US emissions.
Yet, not everybody is bullish about the sector as the industry undergoes the process of rebalancing over the coming months and years.
Julian Jessop, chief global economist at Capital Economics, says the firm is not planning any major revisions to its oil price forecasts, which it predicts will rise to $60 per barrel by the end of 2017.
“Prices are only a little higher than they were in October, shortly after an output cut was first discussed, or the average over the last six months.
“As such the deal is only a small positive for energy producers and only a small negative for consumers, who will still benefit from much lower oil prices than were assumed to be the ‘new normal’ a few years ago.”