A toxic mix of high levels of debt in the oil sector and the sharp decline in the price of the commodity could have far-reaching effects on the global economy, economists at the Bank of International Settlements (BIS) warn.
New research from the BIS, known as the central bank of central banks and one of the few organizations to foresee the global financial crisis of 2008, shows that the total debt of the oil and gas sector worldwide stands at roughly $2.5 trillion, two and a half times what it was at the end of 2006.
With oil prices around 60 percent lower than they were in mid-June 2014, the bank said that there had been a significant decline in the value of assets backing the debt in this sector. The authors of the report – BIS economists Dietrich Domanski, Jonathan Kearns, Marco Lombardi and Hyun Song Shin – have found that long-term investors might soon lose their appetite for this debt and compound a sell-off in the wider corporate bond markets.
“Being able to absorb losses in the short term, long-term investors in debt securities have often been considered a stabilizing influence on financial markets. However, recent experience suggests that even long-term investors have limited appetite for losses and may join in any selling spree,” the four economists said in the report released on Wednesday morning.
“A sell-off of oil company debt could spill over to corporate bond markets more broadly if investors try to reduce the riskiness of their portfolios. The fact that debt of oil and gas firms represents a substantial portion of future redemptions underlines the potential system-wide relevance of developments in the sector.”
About Alfonso Esparza
Senior Currency Strategist, OANDA, Alfonso Esparza specializes in macro forex strategies for North American and major currency pairs. Upon joining OANDA in 2007, he established the MarketPulseFX blog and he has since written extensively about central banks and global economic and political trends. Alfonso has also worked as a professional currency trader focused on North America and emerging markets. He holds a finance degree from the Monterrey Institute of Technology and Higher Education (ITESM) and an MBA with a specialization on financial engineering and marketing from the University of Toronto. Follow on Twitterand on his Google+ profile.