Weekly Energy Update (April 22, 2021)

by Bill O’Grady, Thomas Wash, and Patrick Fearon-Hernandez, CFA | PDF

After the recent rally in prices, the market is consolidating recent gains and establishing a larger trading range between $68 to $58 per barrel.

(Source: Barchart.com)

Crude oil inventories rose 0.6 mb compared to the 3.4 mb draw expected.  The SPR fell 0.7 mb, meaning without the addition from the reserve, commercial inventories would have declined 0.1 mb.

In the details, U.S. crude oil production was unchanged at 11.0 mbpd.  Exports were also unchanged while imports fell 0.4 mbpd.  Refining activity was steady.

(Sources: DOE, CIM)

This chart shows the seasonal pattern for crude oil inventories.  We are about two weeks to the end of the winter/early spring build season.  Until the Texas freeze, we were seeing a counterseasonal decline.  This week, stockpiles were mostly steady.  We are currently at a seasonal deficit of 34.9 mb.

Based on our oil inventory/price model, fair value is $43.72; using the euro/price model, fair value is $65.05.  The combined model, a broader analysis of the oil price, generates a fair value of $53.19.

Gasoline consumption is now above the five-year average.

So is distillate demand.

It is also notable that demand is well above last year when the lockdowns were implemented.

Market news:

  • The primary forecasters for the oil markets have updated their forecasts.

For the most part, demand is expected to rise compared to last year.

  • One of the themes we have applied to our Asset Allocation has been that the oil and gas industry would be starved for capital due to ESG issues.  And so, the better place to invest isn’t in the industry but in the commodity itself.  Although energy stocks have done well this year, they have not done as well as the commodity overall.  We have further evidence that ESG concerns are affecting capital to the industry.  First, private equity, a source of funding for the industry, is drying up.  Second, the industry faces the problem that changes in demand and regulation could lead to stranded assets.  Therefore, a company with a development project runs the risk that by the time the fields start producing, the demand for that oil may not exist.  Large firms are starting to sell off these projects; smaller firms are taking the chance that the drop in demand may not materialize as soon as expected and are buying up these projects.

Geopolitical news:

Alternative energy/policy news:

  • Exxon (XOM, USD, 55.29) is proposing a $100 billion project to capture carbon among facilities in the Houston area.  Overall, environmental groups tend to oppose these measures, fearing that (a) they won’t work and (b) they encourage hope that society can continue to use fossil fuels and rely on carbon capture.  Despite these concerns, carbon capture technology will likely continue to be studied because it has political potency, and we may need it to control carbon that is removed from the atmosphere.
  • The administration is pushing a “clean jobs initiative” as part of its infrastructure package.
  • After carbon emissions fell last year due to the pandemic closures, emissions are rising rapidly as the economy reopens.  Emissions are set to rise 4.8% this year, the fastest growth since 2010.
  • Although lumber prices have been on a tear, trees have a competing use in absorbing and capturing carbon dioxide.  Carbon markets are offering tree growers an option to cutting down their forests, and some are using the carbon markets to postpone harvesting.  This situation, if it continues, could exacerbate lumber supplies.
  • One of the roles in oil and gas development is the “landman,” a person who scours county records to see who owns the mineral rights to land and then pitching the owner for the right to develop the asset.  Like many jobs in the commodity business, it is “boom and bust.”  When development is rapid, landmen could make an impressive living.  When the inevitable downturn occurred, they usually just scraped by.  But, one saving grace was that oil and gas was a depleting asset; as long as there was oil and gas drilling, there was the need for their services.  As the long-term outlook for oil and gas demand darkens, the landmen have moved to selling the wind and solar rights to land.  The problem is that these sources of energy are renewable, meaning the rights, once sold, probably won’t be needed again.  As the industry evolves, the occupations tied to it will adjust as well.
  • The EU continues to delay a decision on whether natural gas is “green” or not.  Although natural gas isn’t without emissions, it is much cleaner than coal or oil.  The delays are hampering the industry’s ability to adapt to policy changes.

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