Investors have been stressed by the possibility that demand for oil has already peaked and it could all be down from here. The pandemic has reduced oil demand as fewer people commute to work, and the shift to renewables will soon reduce longer-term oil demand.
released long-term projections last year that indicate demand may never fully recover.
But one analyst says the pessimism may be overdone. In fact, Mizuho analyst Daniel Boyd is betting that oil companies – which have drastically reduced their drilling in response to the pandemic – are currently producing too little oil and that a shortage is coming. This could lead to higher prices than the market currently anticipates, and it could push some stocks higher.
“We don’t expect oil demand to peak for at least a decade and see a risk of supply shortages after 2025,” Boyd writes. “In other words, fear of loss of demand leads to real loss of supply and sustainably higher prices.”
Boyd’s top picks are
(ticker: COP), which it believes will provide investors with a total return of 29%, and
(OXY), which he believes could yield 30%. Boyd also has buy odds on
Royal Dutch Shell (RDS.A). His top picks “combine high-quality assets with leverage on commodity prices,” he writes.
Some of that is already being reflected in the market – oil prices are up around 10% in the past two weeks alone, and most stocks are higher as well.
Boyd believes oil companies have cut supply so aggressively that they will soon push the market toward undersupply, after years of persistent oversupply. The number of oil rigs in the United States is still down 60% from pre-pandemic levels. The industry is expected to reinvest only 70-80% of its operating cash flow into oil production, compared to 100%-140% in the recent past, the analyst writes.
The pullback comes as oil demand is expected to rebound strongly this year given the rollout of Covid-19 vaccines. The drop in air transport is the main cause of the weak demand for oil. But people around the world will soon be flying back to make up for all the trips they missed in 2020, Boyd projects.
“We expect pent-up demand for air travel to lead to a ‘V’ shaped recovery in demand. Jet fuel is only 8% of the demand but accounts for 40-50% of the decline,” he writes. China is already an example, he says: “Chinese demand for oil is already up 5.8% year-on-year; faster than the 5-year compound annual growth rate of 4.9%, evidence of pent-up demand. »
Byron Wien and Joe Zidle have written that the oil resurgence will be one of the 10 “surprises” for 2021, but this is fast becoming conventional wisdom.
That is why it is also worth considering a more bearish scenario. Among the factors that could change this equation is increased Iranian production, Boyd notes. The country, whose oil exports have been hampered by the sanctions, has around 2 million barrels a day of spare capacity. A new nuclear weapons deal with Iran under President Joe Biden, for example, could bring all that oil back into the market and tip the balance between supply and demand.
Write to Avi Salzman at email@example.com