Market

Why oil producers won’t stop the rally

Three things to start:

  1. Opec+ is sticking with its schedule for lifting production, defying pressure from consumer governments — and the White House — to speed up the supply increases. Oil prices soared on the news.

  2. American crude producers aren’t about to come to the rescue either, says the boss of the country’s biggest shale company.

  3. Clean-up crews are scrambling to contain a California oil spill that has killed birds and fish and could close “Surf City”, a beach south of Los Angeles, for months.

And one thing that hasn’t happened: America’s new energy revolution. Congress has not moved ahead with the $1.2tn infrastructure bill or $3.5tn budget reconciliation package, with the voting deadline on the former (to which the latter is in effect tied) punted to the end of the month.

If that deadline slips too, Joe Biden will turn up at the November UN climate summit in Glasgow lacking any substantial climate legislation to prove the US is going to deliver on his decarbonisation pledges.

Welcome back to another Energy Source, which today focuses on the bullish oil market.

Suddenly, everything in energy markets seems to be happening at once. Global coal, natural gas, and carbon prices are surging by the day.

Jamie Webster, a senior director in Boston Consulting Group’s Energy Impact Center, argues that it may amount to the first climate change energy crisis, “both in the shocks that initiated the crisis (eg, low hydro [power] production in Brazil) and the muted supply response (eg restricted investment in new gas supply)”.

“This crisis could have happened without climate change, but its probability was higher because of it,” Webster said.

Now oil is being dragged higher too, thanks to Opec’s deep cuts and soaring demand. In today’s first note, I try to explain why the cartel of oil producers and shale operators in the US are doing nothing to cool the rally, despite the complaints of consumers and warnings from some analysts that the price has reached a point that could start curbing consumption.

But at least oil prices aren’t nearing the peaks set in 2008, right? It depends on where you are, as Amanda Chu makes clear in our second note. Spoiler: it’s not a good time to be buying oil in Turkish lira.

Data Drill picks up on a recent spike in “climate change” mentions in company filings.

And thanks to everyone who voted in our poll last week. We asked if this bull run in fossil fuel prices would slow or speed up the energy transition. You can still vote in the online poll, where “speed it up” is well ahead. On Twitter, voters slanted the opposite way.

This article is an on-site version of our Energy Source newsletter. Sign up here to get the newsletter sent straight to your inbox every Tuesday and Thursday

Why won’t oil suppliers quell the latest crude rally?

Oil prices are cruising up into the red zone for consumers. Combined with record-high prices for natural gas and coal, the inflation threatens to stall the economic recovery. Morgan Stanley reckons that $80 a barrel (for Brent) is where oil demand starts to be destroyed. Yesterday, Brent soared far above $80. So why aren’t producers moving to cool the market?

1. Opec+ likes the higher price and doesn’t trust that demand is out of the woods

Opec thinks the monthly 400,000 b/d production increases that it has scheduled are a prudent way to steward the market back towards supply-demand balance. So no reason to change tack.

It is also still concerned about demand, which should ease in the first quarter next year, especially if another coronavirus surge halts the rise in global mobility or puts a chill on economies again.

“With the mixed signals and uncertainties surrounding the market, the case for a change in course is not there,” Bassam Fattouh, director of the Oxford Institute for Energy Studies, where Saudi energy minister Prince Abdulaziz, sits on the board, told the FT.

The cartel also frets that if US shale producers start increasing production, the cartel may need to cut supply again in 2022. So it doesn’t want to make that job harder by increasing supply too quickly now.

But also: Saudi Arabia and other countries like higher oil prices, which are vindicating the cutting strategy of recent months. Why risk that just because the US and other countries don’t like paying more for oil?

“Opec has always been slow to cap rallies and this looks like another example,” said Bill Farren-Price, a veteran Opec-watcher and director at energy consultancy Enverus.

“For Opec, high prices now are always going to trump fears about what might happen because of high prices later,” he added.

Bjarne Schieldrop, chief commodities analyst at SEB, described Opec’s strategy as “reckless”.

2. US shale producers still fear Opec . . . 

Last year’s price war still terrifies the American oil sector.

In the US, producers fear that if they start deploying more rigs, Saudi Arabia, Russia and other Opec+ producers have enough firepower — in the form of 4m-5m barrels a day of spare capacity — to punish them.

So shale operators need to wait until Opec+ producers have fully restored all that production before they start drilling more oil, Scott Sheffield, head of the shale patch’s biggest producer Pioneer Natural Resources, told me last week.

“Talking with Opec officials and Russia officials . . . If shale [production] would take off today, when there’s spare capacity, that will lead to another potential crisis.”

It leaves the market “under Opec’s control”, he said.

3 . . . and their new shareholders

For shale companies, value investors and dividend hoarders have replaced growth investors. As Sheffield said last week:

“There’s no growth investors investing in US majors or US shale. Now it’s dividend funds. So we can’t just whipsaw the people that buy our stocks.” 

Any company that tried to start growing production instead of rewarding these new investors with the variable dividends they had been promised would be “punished”, he said.

Just as important is that management teams — once notorious for compensation schemes bearing little relation to the value they created for shareholders — are themselves now benefiting from dividends.

“I’m getting as much in dividends off of my stock next year as I am in my total compensation. That’s a total change in mindset,” said Sheffield.

(Derek Brower)

Emerging markets are feeling the acute effects of rising oil prices

Sky-high oil prices are being felt across the world. But in emerging markets with weaker currencies, the impact is all the more acute.

This is exacerbated by Opec’s decision to stick with output plans yesterday, which pushed Brent crude up to its highest price in at least three years.

That spells expensive oil for consumers in Europe and the US. But throw sliding currencies into the mix, and the real price of a barrel in some countries jumps to record or near-record levels.

In South Africa, for example, oil priced in rand is soaring. In Turkey, meanwhile, the deteriorating value of the lira has sent oil prices to an all-time high. Similar situations exist in Argentina and India.

“Oil prices are really a function of two distinct factors,” said Philippe Benoit of Columbia’s Center on Global Energy Policy. “One is what is happening . . . between supply and demand. And the other is what is happening in terms of the dollar.” 

Pandemic economic recovery, disaster-related oil disruptions and soaring gas prices have led to higher-than-expected demand for oil, sparking fears of a global energy crunch. Goldman Sachs predicts prices could climb even higher, up to $90 per barrel by the end of the year.

“It is a reminder that the energy bounty . . . that was discussed just a few years ago can quickly go away,” said Webster of Boston Consulting Group. (Amanda Chu)

Line chart showing Argentina’s oil prices have skyrocketed
Line chart showing South Africa’s oil price is reaching its highest levels

Data Drill

Oil and gas companies are paying more attention to climate in their filings. A new report by analytics company GlobalData found that mentions of “climate change” were up 41 per cent in 2020-21 compared to 2018-19. 

Another key theme for fossil fuel companies was the movement to clean energy. The phrase “energy transition” was used more than 200,000 times since 2020, and “carbon emissions” was mentioned over 150,000 times.

GlobalData expects the climate discussion to only grow in the next five years. According to the company, most independent US oil and gas companies have “either acknowledged, implemented, or set specific targets and strategies to combat their emissions output”. 

The challenge lies in implementation. According to GlobalData analyst Justin Allen, gas flaring, equipment malfunctions, oil transport accidents are some of the obstacles in the way of net zero goals.

“If the US is going to meet its target of net zero by 2050, it will be crucial for the [oil and gas] industry to improve its emissions output over the next 20 to 30 years,” said Allen in the company’s press release. (Amanda Chu)

Line chart of Total mentions in global oil and gas company filings (thousands) showing "Climate change" mentioned over 200,000 times in filings since 2020

Power Points

Energy Source is a twice-weekly energy newsletter from the Financial Times. It is written and edited by Derek Brower, Myles McCormick, Justin Jacobs and Emily Goldberg.

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