Politics Complicate Oil Price Analysis
We all have opinions on present-day politics and oil, but I’ll avoid polemics and simply observe that President Trump is an active president who complicates any oil price analysis. The president often pursues a unilateral, assertive and frequently adversarial approach to problems. The future course of his decisions, as well as reactions and counterreactions to those acts, will have a tremendous influence on supply, demand and pricing.
The Trump administration has turned up the pressure on Iran. One wouldn’t be surprised to see Iranian exports sliced by a half in 2019, just as one can’t be surprised by an eventual diplomatic breakthrough. Trump’s team may tighten the screws on Venezuela and pick winners and losers among Middle Eastern and North African countries. Alternatively, he could look to aggressively sell oil from the Strategic Petroleum Reserve if it’s needed to preserve popularity with constituents who live where fuel costs represent large slices of disposable income.
And, while this is being written against the backdrop of strong U.S. and global growth, there is the question of what might happen to many asset classes if the Mueller probe results in a constitutional crisis.
Money Could Flow Into or Out of Oil
Inflation hasn’t been a realistic worry for asset managers in more than 10 years, but that could change in a heartbeat. Oil is viewed as one of the great hedges against inflation, but despite the exponential growth of oil futures and options, petroleum has a tiny slice of global assets under management.
Imagine if there’s a significant loss of faith in bonds or equities. The amount of investment in oil futures and derivatives has had spectacular growth but accounts for a fraction of 1% when compared to the more mature financial investments. It is not inconceivable that tens of billions of dollars of passive and active money could flow in or out of oil futures. Money flow was the major culprit behind the $145/bbl oil futures prints of 10 years ago and when ingress turned into egress, it accounted for the $32/bbl price later in 2008.
IMO Sea Change Stands to Have a Big Impact on Diesel and Jet Fuel Prices
The greatest change in fuel formulation since the elimination of lead in most gasoline looms about 12 months from now. The International Maritime Organization (IMO) has decreed that vessels must no longer use fuels that regularly now include 5,000 to 35,000 parts per million of sulfur. That change takes place globally on Jan. 1, 2020, but the preparation for a lower-sulfur bunkering fuel is underway. Eventually, this shift may be a game-changer for LNG, but over the shorter term, it may have a major impact on the way distillate, and more notably diesel and jet fuel, are valued.
The United States already requires a much lower sulfur fuel (almost always diesel) within 200 miles of the coastline, but some 90,000 or so maritime vessels rely on cheap heavy No. 6 oil. Estimates are that perhaps 2 million barrels per day of that heavy fuel demand will give way to marine fuels that rely on diesel and jet fuel cuts from refiners, or even from the feedstock that goes through catcrackers.
You can find smart analysts who believe that worries of IMO are reminiscent of the cry-wolf Y2K proclamations in late 1999 and you can locate respectable analysts who see prospects for $4-$5/gallon diesel prices at U.S. pumps. IMO could be the ultimate frenetic barking dog, or it could be a Basenji.
Disruption and Displacement in the Auto Industry Could be a Game Changer
The last part of 2018 brings less talk about EVs replacing internal combustion engine vehicles and more talk about relaxed CAFE standards for next decade’s cars and trucks.
But tipping points are often not tipped off. If 2020 CAFE standards are frozen into the middle of the next decade, the fleet will still get more efficient and higher prices for fuel and lower prices for batteries might provoke some alteration in vehicle choices. Gasoline demand in 2016, 2017 and 2018 has been within a rounding error of 9.3 million barrels per day, and the Energy Information Administration is forecasting a small rise in 2019. They could be very wrong, particularly if politics, money flow and a sea change provoke generational change.