Oil suffered a historic meltdown on Monday, as prices plummeted into negative territory for the first time. The economic fallout from the novel coronavirus has devastated the energy sector. The situation is so bad that President Trump has promised to offer assistance to America’s oil industry.
But not if Warren Buffett can offer a lifeline first. The legendary value investor not only predicted this crash, but he has the capital to make a headline-grabbing acquisition.
Buffett first predicted $0 a barrel oil way back in 2016. In a CNBC interview, Buffett said:
If oil were free, it would be good for us
At the time, Buffett said the U.S. oil industry had a market capitalization of about $2 trillion, assuming the industry produced 10 million barrels selling for roughly $100 each. Buffett described what would happen should oil drop to zero:
Now all of a sudden you take it down to where you’re not making money, and the $2 trillion of capital value disappears very quickly. The bank loans against it get sour very quickly. [Oil producers] quit buying from the service companies very quickly… All of those things contract very quickly.
It would seem that the Oracle of Omaha has been preparing for an epic collapse in the U.S. oil industry. It’s no wonder he bought positions early.
Towards the end of 2019, Buffett bought significant stakes in two oil companies. His first oil bet was Occidental Petroleum (NYSE: OXY). The Oracle bought 11.4 million shares of OXY after pledging $10 billion in April 2019 to help the energy company acquire Anadarko .
In the fourth quarter of the same year, Buffett bought over 4.2 million shares of Suncor Energy (NYSE: SU). Suncor is considered a safe bet. The company can drill more oil if crude prices spike. It can also rely on its downstream refining and petrochemical segments when oil prices decline.
Both of Buffett’s oil bets are down big this year. Occidental has nosedived 67%, while Suncor’s stock has dropped over 55% year-to-date.
But the Oracle of Omaha is not sweating it. The devastation in the energy sector plays to his strengths.
During the height of the 2008 global financial crisis, Buffett made a killing saving distressed companies including Goldman Sachs, General Electric, and Bank of America. Ultimately, the legendary investor earned $25.7 billion, offering lifelines to cash-desperate firms. I won’t be surprised to see Buffett pouncing on struggling oil companies.
The impact of opening business and activities in the oil sector will take at least three to four months before we can see any improvement in oil prices
says international oil expert Mohammed Al-Sabban.
While the commodity takes time to recover amid the global pandemic, many oil companies will likely file for bankruptcy or seek capital injection to survive.
Using his 2008 playbook, Buffett can throw billions into well-managed and well-positioned oil companies like Suncor. He can make an elephant-sized acquisition, or he can buy significant stakes and sell them later once the sector recovers.
I don’t think the secular demand will change that much.
Buy when others are fearful, says Buffett. Let’s see if he buys crude when there is blood on the streets.