U.S. Markets closed

These 3 charts explain why oil bankruptcies will continue despite crude doubling in price

Despite a nearly 100% rally in the price of crude oil, energy sector bankruptcies continue unabated. The latest is Seventy Seven Energy, which filed for Chapter 11 bankruptcy reorganization this week. This brings the total energy sector bankruptcy filings to 83 since the beginning of 2015, according to Haynes and Boone, representing nearly $54 billion in debt.

Source: Yahoo Finance

The trend does not show signs of slowing yet. “Despite the modest recovery in energy prices, all indications suggest many more producer bankruptcy filings will occur during 2016,” writes Haynes and Boone.

Many oil wells become theoretically profitable at the $50 price level, where crude is currently trading. However, it takes at least three months to bring a shale project back on line, and much longer for conventional wells. According to Michael Cohen, head of energy commodities research at Barclays, “The leverage at these [oil] prices is in the 7 to 9 range, so even prices going back up to $50 or $60 is not going to help that immensely.”

Debt overhang

Energy companies are scrambling just to pay the interest on $370 billion of existing debt. According to data compiled by Yahoo Finance and Factset, over 86% of energy sector operating profits were used to cover the interest payments on debt in the first quarter of the year.

Source: Yahoo Finance

One bright spot: The yield on energy sector debt has more than halved from the peak of approximately 20% in January. However, to fully relive the pressure on energy companies, the yield will need to continue to trend lower as the price of oil continues trends higher.

This scenario is unlikely, however. Oil has rallied nearly 100% from the $26 per barrel bottom, and a pullback to $35 to $40 would be in line with historical norms at this point.

Source: Yahoo Finance

The good news for U.S. stocks overall is that they are decoupling from oil prices, which were the biggest driver of equities when both were plummeting at the beginning of the year.

, Tom Pearce at Deutsche Bank believes the price of oil must be a bit higher to stop leading stocks. He says, "The historical price pattern suggests that the credit market’s sensitivity to oil only diminishes once the oil price rises above $55/bbl—and that the equity market’s strong positive correlation with the oil price only disappears when oil rises above $70/bbl."

Considering the debt overhang that continues to consume company profits, energy company woes are not going away any time soon. "We are still concerned about the outlook for oil, given that the rebound in global growth momentum appears to be fading, dollar strength remains a risk and oil net speculative positions are already elevated," says Pearce.