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Potential Oil Price Spike and a Bad Biofuels Bet

It may have escaped your attention, but the price of West Texas Intermediate has crept back above $50 a barrel (bbl) as the market begins to recognize that crude oil inventories are steadily declining. Many of the beaten-down names in the energy sector have rallied in recent days.

If the International Energy Agency (IEA) is correct, prices could be headed much higher in coming years.

IEA: Oil Price Spike Coming

One of the reasons oil prices have remained depressed is that new projects continued to be completed long after prices fell from $100/bbl. These projects can take several years to complete, so there is always some lag between the price signal and the supply response.

I have warned that the longer oil prices remain depressed, the higher the risk of a spike down the road due to growing demand coupled with insufficient investments into new oil production.

This week at a conference in Bahrain, a senior IEA official made the same point. Bloomberg quoted Neil Atkinson, the head of the IEA’s oil markets and industry division:

“There are still not enough signs of investment beginning to return, and that raises the risk of tightening of the market in the next five years and a risk to the stability of oil prices. There is at least a possibility of going back to the situation we had 10 years ago where oil prices were very, very high at a time when demand was growing.”

He added that the world had vastly underestimated the resilience and technical ingenuity of U.S. shale producers. Spare capacity ten years ago was about two million barrels per day (BPD), and it was a result of several years of underinvestment that spare capacity dwindled and oil prices rose above $100/bbl.

Had it not been for shale oil production that would add millions of barrels of oil to the markets from 2008 to 2014, the world would likely still be facing oil prices above $100/bbl.

I have also believed that one of the factors keeping oil prices depressed even as inventories deplete and demand continues to rise is the idea that electric vehicles are going to make oil obsolete. This week CNBC reported:

“Oil prices are being weighed down by concerns we have reached the limits of demand which is crippling valuations more than other factors such as the threat from electric cars and national policies geared at banning vehicles running on petrol and diesel in the future, says RBC’s chief commodities strategist.”

The RBC strategist, Helima Croft, further echoed the theme of a recent keynote address I recently gave at an energy conference in Utah. I argued that a decade ago, worries about peak oil helped drive oil prices higher. Those worries turned out to be misplaced, and higher oil production eventually crashed prices.

Today, the reverse is true. There are concerns about peak demand, and that is helping weigh down oil prices. As with the peak oil concerns, I think the worries are premature, and prices will rise as it becomes widely recognized that electric vehicles are going to take much longer than anticipated to halt the growth in oil demand.  

Carl Icahn’s Big Biofuels Bet Goes Bust

This energy market has made fools out of many people — even famed investors. Warren Buffett has made several ill-timed calls in the energy sector in recent years, and now Carl Icahn has done the same.

Icahn is the majority owner of the refiner CVR Energy (NYSE: CVI), and a long-time critic of the biofuel quotas U.S. refiners are forced to meet. He was also an adviser to Donald Trump following the election.

President Trump was expected to make a change to the compliance program that would be beneficial for refiners. As a result, CVR Energy gambled that the cost of complying with the quotas would drop, and the company stopped buying Renewable Identification Number, or RIN credits that are required to demonstrate compliance. Because Icahn had Trump’s ear on this issue, it was widely expected that he would change the program.

But in August it was reported that the EPA decided not to make a change to the compliance program. Now, Reuters is reporting that in late August, CVR finally began buying millions of RIN credits in late August. CVR’s obligation had been reported to be $280 million in June, which is huge considering the company’s market cap is only $2 billion, and its 2016 EBITDA was $268 million.

As this buying spree drives RIN prices higher, it’s also going to hit other refiners as they find themselves paying more than anticipated for compliance this quarter. 

Follow Robert Rapier on Twitter, LinkedIn, or Facebook.

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