The price of oil is one of the main economic variables driving the global economy. It exerts a key influence over the price of energy – the lifeblood of economic activity – and all other commodities. While currently in balance in terms of supply and demand, the market is highly vulnerable to geopolitical developments, as recent events in the Middle East have demonstrated.
Over the past three years, oil prices have experienced a rollercoaster ride, reaching rock bottom in 2020 after the outbreak of Covid-19 and then surging past US$100 a barrel (Brent crude) in the wake of the Russian invasion of Ukraine in February 2022.
Stability returned to the market in 2023 – until the Hamas attack on Israel in October. That caused oil prices to shoot up to US$90, with concerns they could rocket past the US$100 mark if the conflict widened to include Iran. Every day, the equivalent of a fifth of the world’s oil passes through the Straits of Hormuz – which separate Iran from the Arabian Peninsula – and Iran could block the shipping route if it wished. The ability of Russia and OPEC to restrict supplies is another potent threat to oil prices.
On the other side of the equation, Saudi Arabia can increase output if needed, and the US can raise production by exploiting its shale reserves. Saudi Arabia is the world’s largest oil producer, with around 12 million barrels per day (bpd) of available capacity and the ability to boost output by 1 – 2 million bpd relatively quickly. The US could possibly add another 1 million bpd with pricing above US$80 per bbl. Combined, the increased output from Saudi Arabia and the US could help offset any cut in supplies by the rest of OPEC and Russia. But clearly, the Saudis and Americans lack the capacity to fill the gap if Iran were to blockade the Straits of Hormuz. That would result in a steep jump in oil prices, which would lead to a global recession along with escalating geopolitical risks.
However, risks of a broader regional conflict in the Middle East appear to have moderated. The region accounts for almost a third of global oil production and hosts the lion’s share of OPEC members. By the end of November, the price of oil had fallen to around US$75–80, helped by signals from Iran that Tehran does not wish to see any escalation in fighting.
China’s subdued recovery is also having an impact. Set against a backdrop of a growth slump, China’s demand for oil and gas has been stronger this year, suggesting China may be stockpiling oil which has added to additional demand. If China were to normalise demand after a potential inventory build, we could see a negative demand shock going into 2024.
Our view is that an oil price of US$80/bbl reflects a market where global demand (around 101 million bpd) and supply (100 million bpd) are more or less in balance. That price should ensure that OPEC doesn’t feel the need to cut output, US production grows moderately, and the global economy is able to run smoothly.
Our exposure to energy
Antipodes’ largest holdings in the energy sector are Total Energies and Occidental Petroleum. We like Total because it is diversified both geographically and in terms of products. Natural gas, mainly in the form of liquefied natural gas, accounts for around half of its upstream profits, with oil production contributing the rest. More than half of Total’s capital investment flows into gas, renewables, hydrogen and other transition technologies, with the remainder directed into the existing oil business. By 2030, the company plans to generate just 30% of product sales from oil, with gas accounting for 50% and low-carbon molecules and electricity for the remainder.
Occidental, meanwhile, is a US-focused firm with access to low-cost oil. It also leads in the application of carbon-capture technology critical to achieving net zero. The company recently received a grant from the US Department of Energy for the development of Stratos, the world’s largest Direct Air Capture (DAC) facility, in Texas. DAC enables the capture and removal of large volumes of carbon dioxide (CO2) directly from the atmosphere. The CO2 can then be safely and securely stored deep underground in geologic formations. The Texas plant is designed to remove up to 1 million tons of carbon from the earth’s atmosphere each year.
You can learn more about the dynamics of the global oil market and the geopolitical forces shaping it by listening to this episode of the Good Value podcast.
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