Long & Short Term Influences Impacting The Oil Price Outlook Ahead Of 2022
- Impact of COVID and Omicron variant uncertainty mitigated by high vaccination rates
- Potential for geo-political tension ever-present, but unpredictable
- Push to Renewable Energy driving structural change toward lower oil consumption
- Mildly positive macro-economic outlook supportive of $75 per barrel in 2022, up from $71 in 2021
The price of crude oil, like every other commodity, is determined by supply and demand. So, in assessing the future price of oil, an understanding of the drivers of supply and demand is essential in forecasting the global oil price.
And to complicate the matter, global oil prices are stated as either West Texas Intermediate (‘WTI’), or North Sea Brent (‘Brent‘). The US produced WTI is recovered from oil fields that are located remotely from major transport hubs while Brent is sourced from oil wells located near the sea, so transport costs are lower for Brent than for WTI oil. This higher transportation cost for WTI is reflected in a lower price of crude WTI, compared to Brent.
Seasonal Demand Influences
Short-term oil prices are impacted by seasonal demand, in that northern hemisphere winter oil prices are lower from December to February and rise in the summer months of June through to August. Summer periods are marked by higher consumer activity levels with summer holidays, while consumers tend to ‘hibernate’ in the colder winter months, resulting in a lower level of economic activity. This has a ‘knock-on‘ effect, by lowering oil consumption, reducing demand and lowering the oil price in winter months.
The COVID-19 pandemic has impacted oil prices, by dampening economic activity as international borders are shut and countries go into lock-down. The Omicron variant, and other potential future variants, may continue to impact oil prices, at least until world vaccination rates reach a level where economic activity is less impacted by the pandemic.
Long-term Influences and 2022 price outlook
However, other price drivers that matter when forecasting oil prices are macro-economic influences, geo-political events and underlying economic structural changes, or megatrends.
Geo-political events are difficult to predict, but can never be discounted. However, there is little point in anticipating the timing of such events. Wise investors know that it is inherently difficult to predict the future, but that doesn’t stop them from preparing for it. As geo-political tensions rise, so does the price of oil, in anticipation of supply disruptions.
Megatrends, on the other hand, are discernible and are generally reflected in the long-term oil price, as indicated by long-dated Oil Futures contracts. Megatrends are long-term structural shifts that have irreversible consequences. By identifying megatrends, smart investors anticipate the factors likely to impact either the supply or demand for oil, and so have a marked influence on the global oil market.
One such megatrend gradually unfolding today is the 2050 global net zero emissions target. This is providing structural support for the use of ‘clean’ or renewable energy, which is driving electric vehicles closer to dominance, in the developed world. The long-term impact of this fundamental shift to battery powered vehicles on the demand for oil is clear – the long-term demand for oil is likely to decline. In the absence of supply constraints, the most likely long-term price trend in the decade head is for lower oil prices
But it is macro-economic factors that have a pronounced influence on the price of oil, by impacting demand levels. The current global economic outlook remains mildly positive, although is clouded with uncertainty. This is because unprecedented levels of economic stimulus, in response to the global pandemic, have buoyed the global economy. However, it is the sustainability of this level of fiscal stimulus that is creating an uncertain long term economic outlook. This is because the high level of stimulus has resulted in large budget deficits around the world, creating record levels of government debt. This extraordinarily high debt level, limits the capacity of governments to further stimulate the economy, should ongoing fiscal stimulus become necessary.
The US Energy Information Administration (‘EIA’), on 11 January 2022, observed that Brent crude oil prices averaged $71 per barrel in 2021, up from $42 per barrel in 2020, and are expected to average $75 per barrel in 2022. This compares to today’s Brent crude oil price of $86.35 per barrel, up from $75 per barrel, just a month earlier. The EIS bases its $75 per barrel 2022 forecast on the assumption that inventory builds through the end of 2022 will exert downward price pressure during this period.
A steady global economy, tempered by pandemic-related uncertainty and unprecedented government debt levels, appears to be the consensus economic outlook at present.
And so it goes for the 2022 oil price – mildly positive, but clouded in uncertainty.