Oil Is Hot Again, But For How Long?

From the pariah of industries last year, energy has become a Wall Street darling once again. In the year to date, energy has gained 17 percent on the S&P 500. Thanks to a rally in oil prices and expectations of an economic recovery from the pandemic, it is the S&P 500’s best-performing sector.

The catastrophic events in Texas this week lent a hand to the rally as the deep freeze in the state led to a national oil production slump of 30 percent, sending WTI above $61 a barrel. By Thursday, the slump in production had reached 40 percent, according to traders and industry insiders quoted by Bloomberg. As usual, all this has prompted analysts to revise their expectations for oil prices and the energy industry.

Fundstrat’s Tom Lee, for instance, said in a note to clients, as quoted by Insider, that energy stocks could gain another 66 percent if oil prices hit $80 a barrel. The company’s head of research noted that the 17-percent gain in energy stocks in the year to date took place without any marked support from institutional investors.

And they still had higher to go, according to Lee.

“So the interesting takeaway is that energy stocks still seem to have comparative upside given the sizable move in crude oil prices,” the analyst said.

How long this upside remains depends on how long the cold stays in Texas. According to the latest forecasts, the state is in for one more round of winter weather before the freeze lets up and temperatures return to the average for the year. Yet the recovery in oil production—and refining as power outages shut down refineries as well—could take longer.

Initial expectations that the freeze will last a couple of days and things will start returning to normal quickly have largely been replaced by suspicions that the week may end before all the frozen oil and gas infrastructure begins to thaw, Bloomberg’s Alex Longley wrote.

The longer the freeze stays, the higher prices will go as the whole world feels the pinch after the U.S. became one of the world’s biggest oil exporters. Yet, the upside potential for prices and energy stocks may soften a bit after Saudi Arabia ends its voluntary 1-million-bpd production cut. The Wall Street Journal reported the Kingdom was going to announce an end to this cut at the next OPEC+ meeting in early March.

One million bpd will not replace all lost U.S. production but that should be coming back online by early March. According to Citi, as quoted by Bloomberg’s Longley, total production loss from the Texas freeze could reach 16 million barrels by early March. Saudi Arabia could make up that amount in 16 days after it removes its voluntary restraint of 1 million bpd, so the situation, at least with global supply, is not really dramatic.

According to some trader sources that Longley cited, the actual loss in production could go as high as 32 million barrels, which means prices could stay higher for longer. Whether they could reach $80 a barrel is doubtful, however. This will require a much longer production slump, to combine with President Biden’s $1.9-trillion stimulus program that is expected to jumpstart the U.S. economy and with mass vaccinations expected to result in a return to pre-pandemic oil demand levels.
Related: What The #%@$ Is Happening In Texas?

The $1.9-trillion plan has yet to be approved by Congress, however, and vaccinations will take at least another few months to create herd immunity, with risks remaining that new variants of the coronavirus could reverse the decline in new cases in the United States and Europe.

In other words, the situation with oil remains highly volatile—even more volatile than usual. This means that optimistic forecasts from this week could become pessimistic in a month, as often happens when unforeseen events flip the market from an oversupply to a deficit.

Truth be told, the oil market had balanced before the Texas freeze hit, which explains the sharp jump in prices. Unfortunately for oil bulls, the decline could be just as sharp when the weather gets back to normal in Texas.

Source: https://oilprice.com/Energy/Crude-Oil/Oil-Is-Hot-Again-But-For-How-Long.html