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Why Markets Should Stay Calm Amid Keystone & Dakota Pipeline Completion (Even As Oil Price Drops)
By now, you know that U.S. President Donald Trump recently signed orders to revive the Dakota Access and Keystone XL oil pipelines. When these pipelines are completed, the U.S. domestic production of oil and oil products will increase significantly. This will probably lead to a decline in oil prices, but I am not worried about that. I am worried that investors will again react irrationally to low oil prices and that we will get a repeat of what happened in 2015 and 2016, when the market was down for many months due to low oil prices. While low oil prices may be bad for some firms, particularly for oil-producers, it is great for most other firms. This is because oil is an input for many of the goods and services that firms sell. No, I am not just talking about how the airline industry will benefit from low oil prices. While many of us think of oil as simply fuel, oil is actually an important input used in the production of many goods. Some of you might be quite surprised to know what else oil is used for. But before I further discuss why low oil prices are good for most firms, and thus good for the U.S. economy and for the U.S. markets, let me first discuss why I think oil prices will go down.
Domestic oil production has already been booming in recent years. As a result, OPEC retaliated by supplying the market with even more oil. They did this to drive out their U.S. competition. You see, OPEC countries can produce oil at a much lower cost than firms in the United States. OPEC’s retaliation strategy might have worked, asmany U.S. oil producing firms went bankrupt. And now, OPEC is back to curtailing their oil supply, which has led to a rise in oil prices and also their profits. I had previously written about past low oil prices and OPEC’s role in those low oil prices. Now that President Trump has signed orders to revive the Dakota and Keystone pipelines, we can certainly expect domestic oil supply to increase, and I predict that OPEC will again retaliate by over-supplying the market with oil. These two sources of oil supply increases, the Dakota and Keystone pipelines and the oversupply of oil from OPEC, will together lead to low oil prices.
And now, let’s talk about why low oil prices should not cause the markets to take a dive. While oil producing firms may suffer from low oil prices, most other firms should not. It was frustrating to watch low oil prices bring down overall market valuations during 2015 and 2016. Low oil prices are actually a good thing for many firms, as low oil prices reduces many firms’ costs. This is because oil is an important input for the production of many goods. What is made out of oil? Well, here is a partial list: plastic, asphalt, rubber, wax, artificial fibers used in clothing, and paint. Do firms use these materials in the production of their goods? Of course they do. If you do a Google search of “list of products made from oil,” then you may be surprised to discover what products are made from oil. Thousands of goods are made with oil. Literally.
So, while I realize that low oil prices may be inevitable, it shouldn’t cause the stock market to fall. That would be irrational. I know that low oil prices made many drivers happy, including me, but this time around, I hope it will make investors happy as well. Low oil prices can increase the profitability of many firms.