Energy Prospectus

Energy Stat: After Two Straight Years of Energy Outperformance, Is a Three-Peat on Deck?
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In a year of epic turbulence in geopolitics and economics, 2022 marked the fourth time in the past 13 years that investors enjoyed outperformance from oil and gas stocks. For the second straight year, energy was the best-performing sector of the S&P 500, with clean tech/renewables being the exception to the rule.

One year ago, we wrote that, after two years of COVID-era focus on energy demand, the lens would pivot to supply. This prediction ended up being accurate, though mainly for a reason we could barely imagine in January 2022: Russia’s war in Ukraine. While the gas crisis in Europe stands out for its intensity, the war is also continuing to impact the global oil market. Other supply-side variables that we will watch in 2023 include the long-running nuclear talks with Iran and capital spending trends across the industry. Meanwhile, as central banks continue to fight inflation, there is no avoiding demand-side risks, and the evolution of China’s COVID policy also needs to be watched.

We forecast WTI averaging $100/Bbl and ending 2023 at $110 (in contrast to the backwardated futures strip), with Brent at a $5 premium.
For U.S. natural gas, prices remain lofty by the standards of the past decade, with 2023 averaging $6.00/Mcf, though it pales in comparison to the situation with gas in Europe.

The past two years of strong performance has certainly driven more investor interest, albeit still low from a historical perspective with the sector currently at 5% of S&P market cap, even after bouncing from the year-ago level of 2.3%. 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: so many companies are newly public that it is suffering from excessive crowdedness.

Very Tight Global Oil Market

Since peaking in 2Q20, global OECD petroleum inventories have been drawing as production fails to keep up with global demand.

OPEC+ members have continuously failed to meet their production quotas, while restrained production growth by U.S. Shale and the loss of Russian production (and likely more in 2023+) led to a tight and volatile oil market in 2022, with total global inventories drawing slightly for the year.

Our model continues to show 0.6 MMPBD of draws in 2023 with modest builds in 1Q23 that are more than offset by draws throughout the rest of 2023. We remain fundamentally bullish on oil through 2023, especially as further inventory draws will pull on global inventories that are already well below long-term averages. Ultimately, we will need to rebuild inventories — and to us that means higher oil prices — to either elicit a supply response (unlikely in the short-term due to E&P capital discipline, OFS constraints, and OPEC+ underinvestment) or curtailment of demand. Even more so, uncertainty over Russian supply will keep the oil market on edge and pricing in a “risk premium” for supply shocks that will be supportive of higher prices with SPR purchases providing a relative price “floor” to any pockets of soft demand. Overall, our forecast on 0.6 MMBPD of draws in 2023 underscores a continued tight oil market with risk to the upside due to declining inventory levels, lack of a supply response, and steady demand — especially as China exits its zero-COVID policy.