Oil is ready to rebound, but what about the long term?


Oil bulls predict that demand for oil will pick up quickly as global economic conditions improve. The International Energy Agency (IEA), for its part, expects a more moderate recovery. Not surprisingly, you can find the demand forecast needed for the bullish or bearish case. And that’s only for short-term price and demand forecasts. Longer-term demand forecasts should take into account negative factors such as the rise of electric vehicles, including cars, trucks and buses, as well as incentives to invest in environmental-social governance (ESG) . In addition, the sector faces risks associated with changes in government policies and competition from even newer technologies. But if we’re looking for positive demand surprises, economic growth in emerging economies in Africa or Asia could accelerate and suddenly require large increases in fossil fuels in the process (remember China?).

We will not offer our own demand forecasts to compete with those of OPEC, IEA, McKinsey and many others. If the economy, especially in the United States and Europe, shrinks, so does fossil fuel consumption, at least in the short term. Based on historical demand patterns, a 10% increase in GDP is expected to lead to a 5% increase in fossil fuel consumption. No econometric model required and probably none more precise. More on that later. Readers of this website should come as no surprise that long-term trends in demand for oil and other forms of fossil fuel consumption point to an industry in long-term decline. Whether it’s fast or slow, we have no idea.

After World War II, energy consumption and economic activity increased similarly. Then, in the 1970s, thanks to the energy crisis and geopolitical tensions in which oil prices rose dramatically, consumers became more aware of energy use and subsequently energy consumption slowed down. the economic activity. At the same time, the economy has shifted away from the production of goods requiring large energy inputs into the production of knowledge-dependent goods and services. (Large accounting and legal firms, for example, use much less electricity than a steelmaker with comparable incomes.) The main takeaway here is that during the Great Recession, patterns of consumption of energy have fallen again and consumers are using even less energy per unit of GDP. (See Figure 1 for a simple approximation.) Related: Three Energy Stocks To Watch Out For On Election Day

Figure 1. How the economy becomes less energy intensive – hypothetical example

Figure 2 shows the fuel consumption figures for 2000-2019. Notice how the relationship between GDP (in blue) and total energy consumption (in green) began to diverge around the time of the Great Recession.


Global GDP grew by 70% between 2000 and 2019, while overall energy consumption increased by 46%, continuing the downward trend in energy use per unit of GDP that began in the 1970s.

Demand for oil only increased by 29% despite low prices. On the other hand, natural gas consumption increased by 60%, no doubt reflecting the sharp drop in prices and the increased availability of the resource. Coal consumption – here’s the surprise – grew by 62%, although most of that growth took place at the turn of the century thanks to higher Chinese demand that has since slowed.

Oil has shown the lowest growth of the three fossil fuels in the past two decades.

Going forward, vehicle electrification (transportation consumes more than half of oil production) will undoubtedly reduce future demand for oil. Demand for coal is likely to hold for some time as developing countries complete coal-fired power plants that they are likely to attempt to operate for a decade or two before abandonment. But that market could sag as credit institutions give in to increasing public pressure on loans to finance these projects and because renewable resources and relatively cheap LNG make projects less competitive. Growth in coal consumption started to slow around 2013. In fact, the increase in electricity production has slowed globally (electricity production accounts for almost half of the coal market). Related: Oil Prices Are Going Nowhere Until Elections

Natural gas is widely used in industrial processes, electric power generation and heating and, based on CO2 and particulate emissions, is less polluting than petroleum and coal. On a transitional basis, natural gas seemed to us the most likely fuel to develop its markets. But even here, political opposition from environmental activists, who prefer zero carbon over less carbon emissions, has targeted the gas to be phased out. And drillers will once again have to worry about government-imposed pollution control measures that inevitably increase costs, as their four-year hiatus from regulatory review may end with a new administration in Washington.

Looking further ahead, the researchers hope to replace natural gas with gases extracted from the atmosphere or with green hydrogen and “renewable” gas. By the way, we must stress that we regard hydrogen as we consider new technologies of nuclear power plants. They both produce energy. And they both do it at economically unattractive prices but still be useful in niche applications.

So here’s our question: will energy demand come back or will working from home associated with broader economic trends continue to reduce energy use? This year, global GDP and energy consumption could fall by 5%. If COVID-19 is brought under control, global economic activity and energy use are expected to increase and possibly sharply. Are we waiting for a step back? Yes, but would that be greater than the 5% loss of demand? And is this likely rebound enough to change the picture in the long run, especially for capital distributors in the industry?

Companies that invest in fixed assets and investors who buy stocks make similar decisions. The only difference is that shareholders can quickly change their minds about a stock or its industry. Investors looking for yield are also not tied to a particular industry. Executives in the petroleum industry who make capital allocation decisions about investments that might not yield a profit for years have the opposite problem. Once engaged, they cannot quickly or easily change strategic direction. Our conclusion is that long-term market trends look less attractive than short-term trends. If this turns out to be correct, who will want these assets and at what price several years from now?

Energy industry strategies appear to fall into one of three categories. One group, including oil companies in the United States and Russia, has chosen to double its commitment to fossil fuels. A second group, mainly European oil companies, decided that the future of the oil sector was bleak, but not right away. Therefore, they limit new developments to less risky prospects and also invest in a renewable energy company. The third group is currently divesting or selling fossil fuel assets and redeploying the product to renewables. In this regard, the major European public services are showing the way.

As we see, asset ambiguity will not pay off. Investors don’t like companies with two competing products and strategies, especially when they are diametrically opposed companies like renewables and fossil fuels. We believe this trend can apply to customers and employees as well.

Industry executives may have to decide the future of fossil fuels sooner than many investors realize. We therefore suggest that investors look beyond a probable and pleasant short-term energy recovery and focus on the long term. The bullish case for oil is likely based on a gradual, decades-long energy transition where demand gradually declines, but with occasional surges in demand thwarting secular change.

The bear case is simply that new energy investments made today will not pay off long before the end of their economic life. This makes these new investments possible of the failed accounting assets that have been written off. It is like throwing away money.

So back to the opening question. Short-term snap back? Yes, probably, but not necessarily relevant to decision making.

By Leonard Hyman and William Tilles for Oil Publicité

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