We have had a few clients ask how the conflict in the Middle East might affect the price of oil. The answer is simple, if the war escalates and expands to other countries, the price will likely go up. However, we don't think anyone should invest only based on the potential of conflict. This led us to take a look at the fundamentals of oil without any conflict in the Middle East. To keep things simple, we only looked at two factors - supply and demand.

 

First let's look at the demand outlook

 

As you can see from the chart below, oil consumption has increased from 83 million barrels in 2005 to an all-time high of approximately 102 million barrels in 2023.

 

 

According to the International Energy Agency, "The Oil 2023 medium-term market report forecasts that based on current government policies and market trends, global oil demand will rise by 6% between 2022 and 2028 to reach 105.7 million barrels per day (mb/d) – supported by robust demand from the petrochemical and aviation sectors. Despite this cumulative increase, annual demand growth is expected to shrivel from 2.4 mb/d this year to just 0.4 mb/d in 2028, putting a peak in demand in sight.” I should point out that current consumption is approximately 102 million barrels per day which is ahead international energy agency's forecast.

 

We believe that, no matter how quickly the developed world moves into alternative energy, any reduction in barrels from the 1 billion people who live in the developed world will be more than offset by the increase by the 7 billion people in the developing world. Currently 14% of the world population lives in the developed world and uses approximately 14 barrels per person per year. The 7 billion people who live in the developing world consume approximately 3 barrels per person per year. It's hard to imagine any scenario where the developing world's consumption of oil doesn't increase at a rate that would be faster than the developing world's. If the developing world moves from three barrels per day to five barrels per day (which is only 35% of what we currently use in the developed world), the rest of us in the developed world would have to reduce our consumption of oil to zero to offset that increase. We believe oil consumption will peak at some point but not by 2028..

 

Now let's look at supply

 

Total global exploration spending has decreased from more than US$70 billion per year in 2010 to less than 30 billion per year for the last five years. Today, with oil at $88 per barrel, US rig count is dropping. There is currently 622 rigs working while there was 769 rigs at the same time last year. This decrease in spending has also decreasing the industry’s reserve life.

 

In the past, with high prices came higher capital expenditures. Today, companies are listening to their shareholders who insist on a return of capital in the form of dividends and share buy backs. With the potential for windfall taxes being suggested by various governments, where is the incentive to increase production?

 

You don't have to be a rocket scientist to know that when demand exceeds supply prices go up. If consumption continues to go up while production stays flat, at some point they will crossover. If they do, look out, oil prices will go up significantly and that's not good for anyone - not even the oil companies!

 

 

Source Trading Economics

 

I've also included a piece from our CIBC Economics team entitled "What to believe? Using provincial data to assess the economic impact of immigration".

 

As always, if you have any questions, please feel free to give us a call at any time.

 

Have a great weekend.

 

Milan