Trade Oil, Buy Electric Cars

There’s nothing electric car drivers love more than giving the proverbial middle finger to gas stations.

Ask any electric car enthusiast about his vehicle, and you’ll likely hear a lengthy diatribe about the evils of gas and how fantastic life is when you don’t have to pull into a filling station and shell out a small fortune for a tank-full of 87 octane.

But what happens when gas prices fall?

Does that change the dynamic? Does it take the wind out of the sails of electric car ownership?

Earlier this week, we started to see gas prices dip below $3.00. We haven’t seen this in quite a while. And prices could actually fall even lower.

In the absence of high gas prices, do electric cars even stand a chance? After all, the ability to hedge against high gas prices is a key selling point.

The Next 10 Years

One thing investors must understand about electric cars is that we’re still in the earliest stages.

The folks buying electric cars today are innovators and early adopters. The ability to “fuel” at home with homegrown electricity is certainly a major benefit, but for these folks, there are other considerations, including tech appeal, image, and environmental benefits.

And remember, these are the same folks who bought Toyota’s hybrid superstar, the Prius, back in the late ’90s… back when naysayers and knuckle-draggers insisted hybrids would never get beyond the novelty stage.

Today, Toyota alone has sold more than 7 million hybrids, with more than 3.2 million being the Prius.

Of course, it would be naïve to suggest that the future of electric cars isn’t somehow tied to high gas prices. The truth is, for electric cars to go mainstream, middle-class car buyers must see a financial benefit to compensate for the price premiums attached to electric cars.

Sure, this premium will fall dramatically over the next 10 years, but it’s really these next 10 years in which the electric car segment needs to shine.

So the question is: In the near term, how low can gas prices fall before they negate the benefits of never having to pay for gasoline?

A Game of Chicken

My cousin is an attorney, and any time I ask him for legal advice, he always says the same thing…

Everything is a game of chicken. It’s all about who’s going to move first. And the person who moves first is always the person who knows he can’t win.

I don’t know if this is just his way of telling me that he’s tired of giving out free legal advice or if this is how he really sees things. But in the case of oil markets, this is certainly a truism.

As oil tanked on Monday, domestic oil producers slowed their strut a bit. It’s not that oil below $90 will put them out of business, but for most, when oil falls so aggressively, they get nervous. After all, for many of these producers, $75 is the breakeven point.

So right now, we’re looking at Saudi Arabia getting some of its mojo back, happily allowing oil prices to slip.

There was a great piece about this in the Financial Times this week that illustrated the situation perfectly:

Saudi Arabia’s apparent willingness to let crude prices fall to damage its competitors will test the capital markets’ support for US producers. It is shaping up to be the North American industry’s toughest examination since the shale revolution started to revive US oil production in 2009.

Bob McNally, a former White House official and now head of Rapidan Group, a Washington-based consultancy, argues that rather than reining in production to support oil prices at about $100 per barrel, Saudi Arabia can easily afford to let them drop to at least $80.

A rough calculation indicates Saudi Arabia would only forgo a fraction – between $10bn and $20bn – of its nearly $750bn in foreign exchange reserves were it to let oil prices fall to $80 per barrel, he says.

“When it’s needed the Saudis are not going to be the ones that cut production,” adds Mr McNally.

“Recent comments by Saudi officials imply that if anyone has to cut, it has to be the Americans.”

When Free Markets Thrive

Although the Saudis can play this game of chicken more enthusiastically than the U.S. right now, they can’t do it forever, especially considering the influence of other OPEC nations — some of which can’t do $80 a barrel.

And still, at $80 a barrel, domestic producers can make a profit. If anything, this will just allow the stronger, better-capitalized producers to dominate, thereby thinning out the field a bit.

This is always a good thing if you believe free markets thrive in the presence of competition.

Point is, I don’t see oil prices ever falling below $80 for any extended period of time.

The effects of another recession in the EU or a big drop in consumption in China and the U.S. could pressure oil prices further, but the world’s very real reliance on oil coupled with the basic fundamentals of supply and demand will shoulder oil prices over the long term — even if there are a few dips along the way.

So here’s how I’m playing it: I’m trading oil on the dips for quick gains and using the profits to buy my next car, which will be electric.

To a new way of life and a new generation of wealth…

Jeff Siegel

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Jeff is the founder and managing editor of Green Chip Stocks. For more on Jeff, go to his editor’s page.

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