Energy Prospectus

January 3, 2022
Raymond James Equity Research

A bit like a proverbial broken clock is right twice a day, 2021 marked only the third time in the past twelve years that investors enjoyed outperformance from oil and gas stocks. After a lost decade, energy was the best-performing sector of the S&P 500 in 2021, illustrating that sometimes there really is light at the end of the tunnel. To be sure, 2021 served up plenty of surprises, including multiple COVID variants (most recently omicron), but overall it was a very solid year for energy. Reflecting (among other things) sector rotation from growth into value, clean tech/renewables was the exception to the rule, a mirror image of 2020.

Mark your calendars for next Tuesday, January 11 at 10:00 am ET. The entire energy research team will be hosting our annual investor call to discuss the sector outlook for the new year: oil and gas market fundamentals, climate and energy policy, key industry themes, and top stock ideas. For dial-in details, please contact your RJ institutional salesperson.

Having been laser-focused on global oil demand throughout the first two years of the pandemic, going forward it will be equally important to watch the supply side as well: normalization of OPEC+ production, the ongoing nuclear talks with Iran, as well as capital spending across the industry. After a sizable inventory draw in 2021, we forecast an approximately balanced in both 2022 and 2023. We forecast WTI averaging $75/Bbl and ending 2022 at $80 (in contrast to the backwardated futures strip), followed by an average of $80 in 2023, with Brent at a modest premium. For U.S. natural gas, muted supply growth translates into continuation of lofty prices by the standards of the past decade, with 2022 averaging $4.00/Mcf (5% above the strip).

One year ago, we wrote: “In all our years/decades doing this, we have never seen energy – again, setting aside clean tech – as out of favor as it is currently.” Even with the strength of 2021, that is still a largely accurate statement. It remains the case that plenty of investors have simply lost interest in a sector that is currently around 2.5% of S&P market cap (up a bit from a year ago). In the context of the global energy transition megatrend, everything in the oil and gas value chain is contrarian, in varying degrees. Clean tech has the opposite problem: there is so much new capital flowing in (including from ESG funds), and so many companies going public, that it is suffering a bit from being a crowded trade.
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FYI: Raymond James / Marshall Atkins' "High Case" for oil prices is $110/bbl in Q2 2022 and a slow drift back to $80/bbl by year-end. Marshall's High Case is based on OECD petroleum inventories being too low today and they must be rebuilt.

There is a lot of good stuff in today's Raymond James report. Send me an email ( dmsteffens@comcast.net ) if you'd like to see the full report.

This is the PRIMARY REASON that oil prices will stay high and likely go to triple digits in a few months.

The oil market enters 2022 with OECD commercial oil
inventories standing below 2.7 billion barrels, the lowest
level since 2014. As a reminder, in mid-2020 they were at a
record high above 3.2 billion barrels.

I have posted here many times that over my four decades in the oil & gas industry, IEA has consistently under-estimated oil demand growth. Below is a quote from the UBS report on the energy sector.

"It’s worth noting that our oil demand estimates are above
those of the International Energy Agency (IEA). We explain
this discrepancy with a notorious positive figure as a
miscellaneous balance line item in IEA reports in recent
quarters. Changes in visible oil inventories point to a larger
market deficit than the modeled difference between the
IEA's supply and demand. That means that either some large
oil inventories have been built that no one has seen (unlikely,
in our view) or that supply is overestimated and/or demand
underestimated. Supply data tends to be more accurate
as oil exports can be tracked very closely, while demand
estimates are derived for many countries indirectly using
production, net oil imports and inventory change estimates.
Hence, we believe that real demand figures will likely be
higher than the IEA's estimates."