Oil demand contracting in developing countries
The main reason oil skyrocketed to $150 last year was not necessarily because of high demand; rather, it was because of high expected growth rate. Well, it's no wonder oil has been chopped in third now that the forecast growth is nowhere to be found. Ominously for oil bulls, OPEC is now saying that non-OPEC growth is contracting:
Most of the bullish forecasts from a few years ago were pinnned on very high growth rates in developing countries. Oil demand in developed countries were always forecast to grow very slowly but it was the emerging markets that the market was excited about. Right now, emerging markets are falling off a cliff and, notwitstanding the fact that China is showing improvement of late due to high loan growth, I have a feeling we haven't seen the worst yet.
Demand growth in countries outside the OECD has fallen by 90 per cent year-on year, OPEC said, and is now expected to increase by just 200,000 bpd in 2009.
“Unlike last year, non-OECD oil demand growth has lost 90 per cent of its strength this year,” OPEC said in its report.
Most of the bullish forecasts from a few years ago were pinnned on very high growth rates in developing countries. Oil demand in developed countries were always forecast to grow very slowly but it was the emerging markets that the market was excited about. Right now, emerging markets are falling off a cliff and, notwitstanding the fact that China is showing improvement of late due to high loan growth, I have a feeling we haven't seen the worst yet.
I beleive this to be somewhat misleading on overall argument over investing in the oil sector. My basic argument is that supplies are falling even further off a cliff, and supply is much harder to grow because a) there are fewer opportunities and b) shutting off a well means it needs to be turned back on through a less than immediate process. Oil falls out of my circle of competance, although I believe one can't be vaguely correct on the situation we face where supply is contracting much faster than demand.
ReplyDeleteThe problem with that bullish case is that it depends on the price... let me write a post about it... see if you can still poke holes in it...
ReplyDeleteBTW, I am not arguing that oil is necessarily a poor bet here. I can actually see it doing ok but I don't see any convincing case for it...
I meant to say "one can be vaguely correct" in the previous post.
ReplyDeleteMy view is overly simplistic in a certain sense, but when demand is greater than supply, prices will rise (sorry if that sounds patronizing, just trying to highlight my thought process). If I was just into semantics, I would say basic economics. I will grant you though that many more factors than just supply and demand impact the price of oil. I think the price of oil will respond to this imbalance in the medium-term, and definitely in the long-term.
It seems to me that oil is a unique commodity in several ways.
ReplyDelete1) A constant supply of oil is absolutely essential to the world economy, and there is no easy substitute.
2) The demand for oil is not going to easily respond to price pressures. In other words, if the price of oil plummets, oil consumption per capita will not rise appreciably. On the other hand, if the price of oil spikes, oil consumption per capita will not drop significantly.
This seems to create an imbalance between outcomes.
Suppose that
A) Oil supply easily meets or exceeds oil demand. Obviously prices will be low as producers compete to sell their oil. In the short run, prices may even drop to levels unprofitable to oil companies, but on average, the cost of production, etc, should put a floor under oil prices.
B) Oil supply falls short of meeting oil demand. In this case, prices will rise until either demand drops, or until more expensive means of energy production become economical. How far would prices have to rise to have a significant impact on demand? Obviously very high indeed, since $140 oil didn't shut down demand.
So it seems to me that we simplify these scenarios into:
A) Low to moderate oil prices.
B) Potentially very very very high oil prices.
This is how I think about it anyway.
I personally don't speculate (I prefer assets that pay me cash), but I do own Chevron (CVX) and Shell (RDS.A) shares.
Regarding point 1, that has been the case for at least 50 years so what's different now? Inability to find production? Is that the major difference?
ReplyDeleteLeather used to be a major commodity 70 years ago but no one even talks about it anymore. Same with rubber. There is nothing to say a substitute or consupmtion pattern won't change. Sticking with energy, whale oil used to be a huge business in the 1800's. Development of crude oil essentially put an end to that and bankrupted all the whaling companies in New England (USA).
As for point 2, I would argue that demand did get impacted. 'Miles driven' declinined in the US last year; oil inventories actually increased last year.
Anyway, we know demand has fallen off a cliff because, if it weren't for OPEC cuts, oil price would be even lower. All this, admittedly, is during a severe recession but it still shows how demand does impact.
However, I will agree with you that oil is largely inelastic. Most of the time, demand doesn't respond...
I think investing in good oil&gas companies is better than the commodity itself. I don't really follow the companies but I would say that leading oil companies will do fine. The question is whether they will outperform the markets going forward. If we don't get another massive bull market in oil, I suspect they will underperform. It's just a guess but usually past leaders rarely do well in subsequent bull markets.
You do make good points.
ReplyDelete