Months of supply cuts and underinvestment are about to smack headlong into resurgent demand as the arrival of a vaccine buoys hopes for a rapid return to normalcy. That’s a perfect prescription for turning what’s currently an oil glut into a market of scarcity capable of pushing prices high enough — above $65 a barrel — for exploration and production companies to start drilling again.
After 10 months of layoffs and forced consolidations sparked by pandemic-related shutdowns, higher prices would be welcome news for producers and the oilfield services companies and refiners that depend on them — not to mention the largely rural communities across Texas, Louisiana, Oklahoma and Pennsylvania that produce much of America’s traditional fossil fuels.
But a full comeback won’t happen overnight, despite the unbridled enthusiasm of traders. US benchmark West Texas Intermediate (WTI) closed in on $50 a barrel lat week for the first time since February as vials of Pfizer’s new vaccine began arriving at hospitals.
For now, oil consumption still remains depressed as governments impose new travel restrictions to slow the spread of the virus during the holidays — a season that in any other year would be associated with greater demand for petroleum products. Gas prices are under $2 a gallon across much of the country.
There is also a sea of oil in storage waiting for market conditions to improve. Global oil inventories are at near an all-time high at almost 3 billion barrels, and the expanded OPEC alliance led by Saudi Arabia and Russia has huge production capacity.
Forcing those bears back into hibernation will take time — as will inoculating the entire country against coronavirus. But the potential for oil consumption to snap back to traditional levels before supply is ready to meet it is a looming threat or opportunity, depending on your perspective.
The oil industry has drastically cut investment in exploration and drilling since 2015 in response to tightening capital markets and investor demands for higher returns.
Globally, oil and gas investment totaled about $880 billion in 2014. This year investment is expected to be $383 billion, the lowest level in 15 years and a whopping 20% below 2019 investment, according to the energy consultancy Rystad Energy.
Exploration and production executives have been reluctant to make major investments after being twice bitten by price downturns in the past five years. That boardroom skittishness won’t disappear immediately.
But the market clearly expects the industry to bounce back in the near term. Exploration and production companies have seen a flood of investment in the past six weeks that has pushed up stock values by 50%.
The International Energy Agency (IEA) expects demand for oil to return to pre-pandemic levels of 100 million barrels a day within 12 to 18 months. However, analysts at the IEA warn that if current low investment levels persist through 2025, some 9 million barrels a day of supply capacity will not materialize. That’s roughly the amount of excess oil on the market now due to pandemic-related shutdowns.
The chief operating officer of ConocoPhillips, Matt Fox, recently told shareholders that as much as 4 million barrels a day of supply could be lost in coming years for the same reason. The shale sector — which saw output fall by more than a million barrels a day to less than 7 million barrels this year — will be hard-pressed to fill the gap on its own if tight capital markets don’t reopen and allow oil companies to invest.
All of this adds up to a supply-demand picture that’s bullish for US producers in 2021 and 2022. These factors will merely determine the magnitude of the supply shortfall. But avoiding one altogether looks impossible.