My daily commute to work means that I need to drive many miles. So, personally, I am delighted that oil prices have been falling. However, for oil companies like BP and Shell, this is less good news.
We have a global glut of oil
The world is drowning in oil. So much so that Goldman Sachs have predicted an eventual oil price of $20 a barrel. We have a global glut of 3 billion barrels of oil.
Why? Because the high oil prices of the past decade have encouraged a boom in oil exploration and development. This means that OPEC producers such as Saudi Arabia and Iraq are pumping as much as they have ever done, the oil majors are extracting oil from Alaska, the Artic and the Gulf of Mexico, and then there is fracking and oil sands.
Moreover, the likelihood is that there will be no rebound in commodities; energy prices are likely to remain low for the next 10-15 years.
It doesn’t take a genius to work out what effect this has on the share prices of oil producers, but what about energy utilities such as SSE (LSE: SSE) and National Grid (LSE: NG.)? How will they be affected?
Well, over the course of the past 15 years, in the midst of a general equities bear market, the share prices of the utilities have been steadily rising, alongside majors such as BP and Royal Dutch Shell.
Yet the utilities remain hugely profitable
But the interesting thing is, when the oil price turned down in the summer of 2014, the share price of the oil companies fell as well. Yet the utilities were not affected. Does this mean we should keep faith with these firms? How can we explain this divergence?
Well, let’s look at the fundamentals. Take SSE first. This has a forecast 2016 P/E ratio of 13.10 and a dividend yield of 6.12%. Thus the company looks good value, and what is particularly impressive is that stonking dividend yield. What’s more, this is a income which has been consistently high, and indeed increasing, for the past 5 years, and is well covered by profits.
How about National Grid? Well it has a predicted 2016 P/E ratio of 15.90, and a dividend yield of 4.61%. Again, this a firm which has been churning out profits and dividends year in and year out.
I see no sign of either business being over-priced. These are steady, stable companies with predictable profits and dividends. Having said that, I wouldn’t be surprised if, over the long term, share price increases level off and eventually fall, with margins under pressure from falling energy prices and increasing competition.
However, both SSE and National Grid still look good dividend investments. You may be rather late to the party, but both are still worth buying into.