Natural Resources Newsletter Q4 2018

Quarterly Review Q4 2019



Exploration and production stocks (as measured by the XLE) declined 24% in the December quarter on the heels of a 21% decline in crude oil (WTI) prices. Much of the drop in the XLE and oil prices came during the month of December in response to growing investor worry over global economic conditions. The decline in the energy sector surpassed a 14% in the S&P Composite Index and declines in other commodities and commodity stocks indices.

With the decline, oil prices broke through the $45 per barrel, which we view as the bottom of a $45-$70 trading range. The decline came despite efforts by OPEC during the quarter to control output to raise pricing. As we have said in the past, we believe OPEC’s impact on oil prices has diminished in recent years and has been replaced by domestic onshore producers.

At current prices, we expect domestic producers to announce 2019 capital expenditure budgets that show a reduction in drilling. Unless there are further signs of a global economic meltdown, we believe oil prices (and energy stocks) should begin to bottom out. We favor companies that maintain strong balance sheets, have a large hedge position and low operating costs to weather the next few quarters, and have large acreage under control allowing the companies to react quickly should prices improve.


Mining companies (as measured by the XME) declined 23% during the December quarter versus a 14% decline in the S&P 500 index. However, the price of gold and silver rose 7.6% and 5.6%, respectively. Most of the gains were earned in December when precious metals performed their safe-haven roles amid concerns about economic growth and stock market turmoil. Whether silver and gold can sustain their recent momentum is a question on many investors’ minds.

For most of the fourth quarter and the year, the outlook for higher interest rates and issues related to trade were supportive of the U.S. dollar which weighed on precious metals. Gold and silver gained appeal when the market melted up in December and have held their gains into 2019.

The dollar could weaken in 2019 as awareness of increasing U.S. government deficits and debt grows. With the benefits of stimulus fading and U.S. economic growth expected to slow, capital could rotate to regions outside the U.S. if investors view other markets as more attractive. Further, the Federal Reserve appears to have softened its stance toward increasing rates following a December stock market sell-off triggered, in part, by concerns about slowing economic growth and the Fed’s perceived inflexibility regarding future rate actions.

While December offered considerable market volatility, we liken it to fear of a bear sighting and believe precious metals may offer protection for when a bear market finally arrives. Additionally, while the last year has been a challenging one for metals investors, mining companies have coped with weak metals prices by becoming more efficient and high-grading resources. As a result, they offer significant leverage to improving metals prices.