Peak Demand Would Not Crash the Oil Industry – Peak Demand Crude Oil - Arhive

In the oil industry, a number of high-profile officials warn us that peak oil demand is still years away. Peak Demand  Crude Oil

Emerging markets have an increasing thirst for fuel, the lack of alternatives for the transportation sector—particularly in trucking and aviation—guarantees growth, and the low price environment over the past several years has given an extra stimulus to consumption. Peak Demand  Crude Oil

Petroleum has always been unique for being essential to the global economy and its monopoly in transportation. Peak Demand  Crude Oil

These factors have allowed the industry, since its inception, to continuously grow while at the same time it has had to deal with pressure to keep prices at levels conducive to both consumers and producers, as well as replace reserves and offset declines.

But what would happen to the oil industry if and when a major disruption to demand occurs? Although it is impossible to predict when oil demand will reach its peak, plateau, and then eventually decline, major shifts in mobility, transportation, and technology mean changes in oil consumption patterns are poised to occur at some point.

While the IEA sees demand reaching 117 million barrels per day (mbd) in 2040, its “New Policies” scenario puts it at 103.5 mbd, not too far from current levels.

With these wide-ranging outlooks in mind, the outlook for the industry is fraught with risk. How firms and the industry as a whole perform in a peak demand outlook is uncertain, but it will not bring about a collapse.Peak Demand  Crude Oil

Even with a flattening of the demand curve, the industry would still need to supply the market with its needs, invest in projects to offset structural declines, and lower costs to improve margins.

To be sure, companies and petro-states have reason to worry about slower demand growth and an ultimate peak as it would force different strategies, prompt existential questions, and possibly bring about stranded assets.Peak Demand  Crude Oil

Trillions of dollars’ worth of investments will be at stake, shareholders would become jittery, and economies reliant on profits from oil revenues could see upheaval.

But even with a flattening of the demand curve, the industry would still need to supply the market with its needs, invest in projects to offset structural declines, and lower costs to improve margins. Peak Demand  Crude Oil

Oil in both OPEC and non-OPEC countries would have to be developed to meet the core demand that remains.Peak Demand  Crude Oil

Electric cars and increased vehicle efficiency are the biggest concerns surrounding demand since they threaten petroleum’s monopoly and growth in the transportation sector.

But even if demand falls in transport amid growing electrification, and the use of CNG in trucking, the oil industry will still contend with the rising need for petrochemicals.

Petchems, which have a strong foothold in industrial activity, are expected to provide a large portion of demand growth over the next two decades, according to various forecasters, and viable alternatives are scarcer than in transportation.

“Over time, you’d definitely see consolidation, particularly downstream,” Andrew Lebow, managing partner with Commodity Research Group, told The Fuse.

“But demand for petrochemicals and light products won’t just disappear.”

Survival through diversification

Without a guarantee of growth, companies and petro-states will have to survive through diversification. In many respects, a number are already moving in that direction.

As a result, oil companies will not suffer the same fate of coal producers, which are struggling now amid supply choice in the electricity sector, the rise of shale gas, and declining demand.

Their lack of diversity has hurt them in changing market conditions.

Some oil firms are shifting their portfolios to prepare for a peak demand scenario, perhaps a harbinger of what oil-producing companies will look like in the future.

They will build investments outside of fossil fuels to hedge against demand peaking, while also exploiting production points where the marginal cost of production is lower than the oil price.

“Some corners of the industry have been anticipating this scenario for some time and are planning for it. Peak demand would impact everyone in hydrocarbons, no matter when it occurs, and that’s why many are looking more toward gas now.”

“Some corners of the industry have been anticipating this scenario for some time and are planning for it,” Jeff Quigley of Stratas Advisors told The Fuse.

“Peak demand would impact everyone in hydrocarbons, no matter when it occurs, and that’s why many are looking more toward gas now.”

It’s important to note that the oil industry is not homogenous and some producers will ultimately endure in a demand-constrained world while others will get flushed out.

European companies are more aggressive in moving toward diversification. Norway’s Statoil is an example of a company making major portfolio changes, by moving toward renewables to position itself for a peak demand scenario.

In a recent sustainability report, it said that it is preparing for government regulations to restrict carbon and looked at how its value will change based on various climate scenarios.

The company, which already has wind projects in the UK, Germany, and Norway, plans to boost its spending on renewables to 15-20 percent of its overall capital spending by 2030.

Royal Dutch Shell, whose CEO breaks from many of his peers and sees demand peaking possibly by next decade, is investing heavily in natural gas, while also devoting resources to wind, hydropower, and biofuels.

The Anglo-Dutch company, however, is not retreating from oil production, although it recently announced the sale of its Canadian oil sands assets.

It’s pouring money into the Vaca Muerta in Argentina, signaling that it remains committed to its core product even as it expands its portfolio.

Total is another European major spreading its risk throughout its asset base by investing in renewables, and even batteries.

U.S. majors are shifting, too. Although ExxonMobil is in the camp that fossil fuel demand growth will remain over at least the next couple of decades, it has shaken up its own oil-centric strategy by making investments in LNG, putting it as the second largest gas producer in the world.

Exxon’s strategy is “a long gas play.” At the same time, even though it’s continuing with some long-term, high-intensive oil projects, its shift to shorter-cycle projects in the U.S. shale areas that offer quick paybacks indicates doubt about demand and worries about stranded assets.

Even the laggards, such as Chevron and ConocoPhillips, are changing their resource base, with Chevron notably active in Australian LNG. They, too, have pivoted to shale.

Chevron is active in the Permian and Argentina, while Conoco, which just announced it will sell its Canadian oil sands assets, is a major player in the Eagle Ford.

“Majors would get bigger because of their access to capital.”

Majors are becoming better hedged against changing market circumstances, with assets both upstream and downstream, along with investments in gas and renewables.

“Majors would get bigger because of their access to capital,” said Lebow. Independents, the backbone of the shale boom, are not as lucky.

However, the declining cost of shale through fracking technology will allow independent producers in the U.S. to be players in a demand-constrained world.

Since they will not hold the portfolio diversification that the larger international oil companies (IOCs) have, they will therefore be more exposed to price fluctuations and, similar to now, capital markets.

Shareholders wouldn’t necessarily flee oil companies but they would punish the less efficient companies and reward the efficient ones, accelerating the move toward consolidation.

The OPEC advantage?

Petro-states, particularly those in OPEC, will be forced to diversify, too, as some are already doing.

That’s the impetus behind Saudi Arabia’s Vision 2030 and the opening of Aramco to investors, even if doubts have emerged how successful these plans will be.

With these reforms, which include heavy investments in solar, the Saudis don’t plan to quit oil altogether, but rather protect themselves against slower demand in the future.

On the flip side, the Saudis may be well situated in a peak demand scenario given the Kingdom’s low-cost production.

With reforms, which include heavy investments in solar, the Saudis don’t plan to quit oil altogether, but rather protect themselves against slower demand in the future.

That may give OPEC countries in the Middle East as a whole more leverage in a peak demand outlook—what they lose from lower prices may be offset by more market power. There will simply be less demand for costly non-OPEC projects.

High-cost production such as deepwater and oil sands will be left out in such an environment and IOCs will have trouble harnessing low-cost production due to limited access.

There will, of course, be carnage and painful adjustments for the ones not seeking reforms.

Countries such as Nigeria and Venezuela, both of which are single-source economies with rampant corruption, will have to deal with weakening revenues and will likely be the most vocal proponents of producers colluding to limit supply.

Impending doom for the industry over oil demand peaking may be overblown, but companies and petro-states need flexibility to respond to demand shifts but also be disciplined so that the market does not experience any paroxysms.

Supply shortfalls and price volatility are surely possibilities despite disruptions in demand.

As the IEA noted: “Even under a scenario in which prices are low and oil demand is falling, new project approvals and capital investment into post-peak fields are required.”