JP Morgan CEO Jamie Dimon believes oil prices could rise to $175 a barrel later this year. Jeremy Weir, the chairman of commodities trader Trafigura, says oil could get “puzzling”.
The consultancy Energy Aspects, which has clients ranging from hedge funds to state energy companies, says we are facing “perhaps the greatest run-up in oil prices ever”. Goldman Sachs believes oil prices will be “averaging” $140 a barrel in the third quarter of this year.
It is tempting to classify this mass surge of bullish expectations as talk of banks and traders positioned for a near-term rise in oil prices – which have already reached $120 a barrel.
The big Western oil companies remain reluctant to invest. Even if they ignored the pressure to go “green”, large ventures outside the US shale basin take years to come on stream
Those with a good memory remember oil’s rise to $147 a barrel on the eve of the financial crisis, when Goldman Sachs was among the prime movers in a rally that quickly reversed as the economy plummeted. Oil was $40 a barrel at Christmas 2008 and yet the bonuses received by Wall Street energy traders in the year went into market folklore.
But while there is always a healthy dash of scepticism about price forecasts, you only have to scratch the surface of the oil market to see that these bullish predictions are, this time, well founded.
The energy crisis, which began with Russia reducing natural gas supplies to Europe before that spread to the commodities complex after the invasion of Ukraine, is far from over. It is likely to get worse before it gets better, with serious ramifications for the world economy, already racked by inflation.
The key issue is simple: there is barely enough oil to go around. And with Russia’s oil production hit by sanctions and facing an increasingly difficult path to market, there are legitimate fears that supply could fall much further.
The European Union (EU) has just banned maritime shipments of Russian oil, forcing Russia to send its oil over ever greater distances to buyers willing to turn a blind eye to its actions in Ukraine. India and China bought cargoes at big discounts after many buyers in Europe self-sanctioned. But as volumes of displaced Russian oil increase, there are questions about the ability and willingness of Asia’s refineries to continue absorbing them.
The big challenge is the impending ban on insurance in the EU and UK for ships carrying Russian oil. This would effectively take Russia out of the main tanker markets, leaving the country with much reduced options for shipping its oil. Oil tankers not only need to insure expensive cargoes, but also against risks such as Exxon-Valdez-style leaks, with multi-billion-dollar clean-up costs.
Rory Johnston, a commodities strategist, says most major ports simply won’t accept tankers without protection and indemnity insurance – a market the UK and EU dominate – and makes a conservative estimate that the drop in Russian output will double to around 20% from pre-invasion levels in Ukraine, or 2 million barrels/day, by the end of the year.
Russian output could fall much further, with the International Energy Agency (IEA) forecasting a drop of 3 million barrels/day – the equivalent of almost all of Kuwait’s output.
Replacing that potential deficit will not be easy. Western governments have already drawn on strategic reserves, releasing about 1 million barrels a day since the invasion. But this has only moderated the price rise, not reversed it, and cannot continue indefinitely.
The only countries with significant spare production capacity are Saudi Arabia and the United Arab Emirates, but the production capacity of both is not unlimited. Saudi Arabia’s output is approaching 11 million barrels/day, after it agreed to slightly increase production. But adding another 1 million barrels/day would push its output into uncharted territory, overloading its oil fields if they need to keep production there for more than a few months.
Other OPEC members are struggling to raise production even to pre-pandemic levels after years of mismanagement and insufficient investment. A possible US nuclear deal with Iran, which could free up more barrels, is uncertain. Skyrocketing food prices could cause unrest in many oil-producing countries, further threatening supplies.
The big Western oil companies remain reluctant to invest. Even if they ignored the pressure to go “green”, large developments outside the US shale basin take years to come on stream.
If supply is deeply disrupted, the market balance becomes up to demand. But governments have made limited cuts in fuel taxes to support consumption, while the population, frustrated by two years of disruptions caused by covid-19, is willing to pay more for petrol at the pumps.
China is reopening its economy. People have started flying again. Demand is going in the wrong direction. All of these factors point to oil prices rising to a level that reduces consumption, likely triggering an economic slowdown large enough to reduce demand. In other words, a recession for many economies.
Authorities might encourage conservation, from reducing speed limits to reinstating taxes. But the evidence so far suggests they are happier tripping over disasters than hassling motorists. They need to hope that when oil gets cheap again, voters will still have a job to turn to.
In Portos e Navios