After a dreary stretch that saw oil markets record the worst monthly loss this year, the markets have kicked off trading in September on a brighter note. Both WTI and Brent crude were above $70 per barrel for the first time in weeks after OPEC+ agreed to keep its current production agreement in place, maintaining the 400K bbl/day hike scheduled for October. The group took less than an hour to make its announcement this time around, a stark contrast to the lengthy negotiations at previous talks. Later on Friday, WTI slipped just below this level, but the catalysts are there to bring it back.
The markets have taken this to signal that global oil markets are in better shape than earlier feared, with the delta variant of Covid-19 causing widespread lockdowns and fears of another recession.
But that's just one of several positive developments that have turned the oil markets decidedly bullish. Here are other bullish catalysts that will impact the oil markets positively over the next few months.
#1 Record Revenues
Last month, Norwegian energy consultancy Rystad Energy reported that the U.S. shale industry is on course to set a significant milestone in 2021: Record pre-hedge revenues.
According to Rystad, U.S. shale producers can expect a record-high hydrocarbon revenue of $195 billion before factoring in hedges in 2021 if WTI futures continue their strong run and average at $60 per barrel this year and natural gas and NGL prices remain steady. The previous record for pre-hedge revenues was $191 billion set in 2019.
The estimate includes hydrocarbon sales from all tight oil horizontal wells in the Permian, Bakken, Anadarko, Eagle Ford, and Niobrara.
That said, Rystad says corporate cash flows from operations may not reach a record before 2022 due to hedging losses amounting to $10 billion worth of revenue in the current year.
The good thing is that hedging losses might not be that high in the coming year because producers are not so keen on using them.
Shale companies typically increase production and add to hedges when oil prices rally, in a bid to lock in profits. However, the mad post-pandemic rally has left many wondering whether this can really last and led to many firms backing off from hedging. Indeed, 53 oil producers tracked by Wood Mackenzie have only hedged 32% of expected 2021 production volumes, considerably less than the same time a year ago.
Goldman firmly belongs to the bull camp and sees oil staying between $75-80 per barrel over the next 18 months. That level should help companies deleverage and improve their returns. Goldman has recommended Occidental (NYSE:OXY), ExxonMobil (NYSE:XOM), Devon (NYSE:DVN), Hess (NYSE:HES), and Schlumberger (NYSE:SLB), among others.
Goldman is not the only oil bull on Wall Street.
In early June, John Kilduff of Again Capital predicted that Brent would hit $80 a barrel in summer and WTI to trade in the $75 to $80 range, thanks to robust gasoline demand.
#2 Demand Recovery in China Crude demand in China has started showing signs of a strong recovery after the country reopened its economy, and Beijing moves closer to finalizing a probe into its independent refiners, thus allowing so-called teapots to resume importing crude.
After nearly five months of slower purchases due to a shortage of import quotas, COVID-19 lockdowns that muted fuel consumption and drawdowns from high inventories, demand for spot crude by the world's biggest importer of the commodity is now on a recovery path.
Since April, weak consumption in China as well as a sharp drop in China's refining output to 14-month lows have depressed the prices of staple crude grades from West Africa and Brazil to multi-month lows.
But analysts are now saying that Chinese crude importers are ramping up purchases and even paying higher premiums to secure supplies from November onwards thanks to lockdown restrictions easing.
About a month ago, authorities in Beijing reimposed massive lockdowns by curtailing public transport and taxi services in 144 of the worst-hit areas by the delta variant nationwide, including train service and subway usage in Beijing. The lockdown has clearly worked and Beijing recently claimed that it had brought delta infections down to zero.
Meanwhile, traders are growing increasingly optimistic that Beijing will soon wrap up a probe on independent refiners, aka the teapots. Private refiners currently control nearly 30% of China's crude refining volumes, up from ~10% in 2013.
Beijing recently announced huge cutbacks in import quotas for the country's private oil refiners. According to Reuters, China's independent refiners were awarded a combined 35.24 million tons in crude oil import quotas in the second batch of quotas this year, a 35% reduction from 53.88 million tons for a similar tranche a year ago.
Related: WTI Oil Jumps Above $70 On Bullish U.S. Demand Data
The big reduction came as part of a government crackdown on private Chinese refiners known as teapots which have become increasingly dominant over the past five years. This was intended to allow Beijing to more precisely regulate the flow of foreign oil as it doubles down on malpractices such as tax evasion, fuel smuggling, and violations of environmental and emissions rules by independent refiners. But Beijing is now close to finishing the cleanup exercise and could allow more teapots to begin importing crude again.
Indeed, the fourth batch of quotas is expected to be issued in September or October, which could revive demand from independent refiners.
Something else working in the teapots' favor is that crude stocks by China's national oil companies are very low, and private refiners could help bridge the shortfall. Imports into China's Shandong province, home to most teapots, fell below 3 million barrels in both July and August, compared with ~3.6 million barrels on average in the first half of 2021.
#3 Supply Crunch
Another Wall Street punter is strongly bullish on oil but for a different reason: Supply crunch.
Bank of America commodities strategist Francisco Blanch has forecast oil prices to hit $100 a barrel oil in 2022 as the world begins facing a major supply crunch:
"First, there is plenty of pent up mobility demand after an 18 month lockdown. Second, mass transit will lag, boosting private car usage for a prolonged period of time. Third, pre-pandemic studies show more remote work could result in more miles driven, as work-from-home turns into work-from-car. On the supply side, we expect government policy pressure in the U.S. and around the world to curb capex over coming quarters to meet Paris goals. Secondly, investors have become more vocal against energy sector spending for both financial and ESG reasons. Third, judicial pressures are rising to limit carbon dioxide emissions. In short, demand is poised to bounce back and supply may not fully keep up, placing OPEC in control of the oil market in 2022," explained Blanch.
Blanch's bullish prediction is so far the boldest by mainstream Wall Street banks, and it makes sense even on a longer time frame.
Though less frequently discussed seriously compared to Peak Oil Demand, Peak Oil Supply remains a distinct possibility over the next couple of years.
In the past, supply-side "peak oil" theories mostly turned out to be wrong mainly because their proponents invariably underestimated the enormity of yet-to-be-discovered resources. In more recent years, demand-side "peak oil" theory has always managed to overestimate the ability of renewable energy sources and electric vehicles to displace fossil fuels.
Then, of course, few could have foretold the explosive growth of U.S. shale that added 13 million barrels per day to global supply from just 1-2 million b/d in the space of just a decade.
It's ironic that the shale crisis is likely to be responsible for triggering Peak Oil Supply.
In an excellent op/ed, vice chairman of IHS Markit Dan Yergin observes that it's almost inevitable that shale output will go in reverse and decline thanks to drastic cutbacks in investment and only later recover at a slow pace. Shale oil wells decline at an exceptionally fast clip and therefore require constant drilling to replenish lost supply.
Indeed, Norway-based energy consultancy Rystad Energy recently warned that Big Oil could see its proven reserves run out in less than 15 years, thanks to produced volumes not being fully replaced with new discoveries.
According to Rystad, proven oil and gas reserves by the so-called Big Oil companies, namely ExxonMobil, BP Plc. (NYSE:BP), Shell (NYSE:RDS.A), Chevron (NYSE:CVX), Total (NYSE:TOT), and Eni S.p.A (NYSE:E) are all falling, as produced volumes are not being fully replaced with new discoveries.
Source: Oil and Gas Journal
Last year alone, massive impairment charges saw Big Oil's proven reserves drop by 13 billion boe, good for ~15% of its stock levels in the ground, last year. Rystad now says that the remaining reserves are set to run out in less than 15 years unless Big Oil makes more commercial discoveries quickly.
The main culprit: Rapidly shrinking exploration investments.
Global oil and gas companies cut their capex by a staggering 34% in 2020 in response to shrinking demand and investors growing weary of persistently poor returns by the sector.
The trend shows no signs of moderating: First quarter discoveries totaled 1.2 billion boe, the lowest in 7 years with successful wildcats only yielding modest-sized finds as per Rystad.
ExxonMobil, whose proven reserves shrank by 7 billion boe in 2020, or 30%, from 2019 levels, was the worst hit after major reductions in Canadian oil sands and US shale gas properties.
Shell, meanwhile, saw its proven reserves fall by 20% to 9 billion boe last year; Chevron lost 2 billion boe of proven reserves due to impairment charges while BP lost 1 boe. Only Total and Eni have avoided reductions in proven reserves over the past decade.
Yet, policy changes by Biden's administration, as well as fever-pitch climate activism, are likely to make it really hard for Big Oil to go back to its trigger-happy drilling days, meaning U.S. shale could really struggle to return to its halcyon days.
By Alex Kimani for Oilprice.com
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1- The sale of ICE cars has peaked in 2017
2- World electric car sales in the last decade grow exponentially (doubling every 2 years). To reach the first percent takes a long time but from there to reach a hundred percent is just 7 doublings.
3- EV’s do not have to sell more then ICE cars to stop all oil ‘demand growth’. Just the amount that is added to the world total, minus the cars that are scrapped, so about 25% is enough to stop all oil consumption growth in the private vehicle market.
In my calculations all demand growth is over in 2025 and that means demand in the private vehicle sector also peaks in 2025, so no worries about ‘peak supply’.
Dr Mamdouh G Salameh
International Oil Economist
Visiting Professor of Energy Economics at ESCP Europe Business