Vantage Point Advisors’ July Energy Blog

Playing the “Blame Game”

The current oil and gasoline pricing environment is causing a ‘blame game’ in the United States.

  • Some, including President Biden, blame Putin for invading Ukraine
  • Some, including President Biden, blame oil companies for earning record profits
  • Some blame Saudi Arabia for not increasing their production
  • Some, including oil companies, blame the Biden Administration for cancelling the Keystone Pipeline on his first day in office, as well as reducing opportunities to drill on Federal Lands
  • Oil companies reiterate the Biden Administration’s pledge to have 50% of US cars sold be electric by 2030

Putin is to blame for invading Ukraine

For bullet one, blaming high prices on Putin, one must differentiate between Putin’s act of invading Ukraine and our President’s response. Ukraine’s invasion did not materially affect the world supply of production, but our response and decision to no longer buy Russian oil effectively took about 20% of the daily supply out of the equation. [1]

Oil Companies are to blame for earning record profits

The second bullet, blaming oil companies for making “record profits,” was illustrated when Biden wrote a letter to executives at seven companies [2] last week accusing them of benefiting from the Russian war in Ukraine by keeping the supply of refined products low and absorbing record profits as prices run high. [3]  In that letter, the President called on the companies to take steps to boost supply in order to bring down the price of gasoline, which is averaging around $5 per gallon nationally. However, oil companies have countered that they are producing as much as they can.

Saudi Arabia is to Blame for Not Producing Enough

As shown in the graphic above, Saudi Arabia is the 3rd largest producer of oil in the world. Also, there is a general belief that Saudi Arabia could increase production if desired, flooding the market and driving down prices. However, President Biden was recently told by French President Emmanuel Macron that the two top OPEC oil producers, Saudi Arabia and the United Arab Emirates, can barely increase oil production. “In light of recent media reports, I would like to clarify that the UAE is producing near to our maximum production capacity based on its current OPEC+ production baseline,” said Energy Minister Suhail bin Mohammed Al Mazrouei. [4]

Biden Administration is to Blame – Cancelling Keystone Pipeline and Reduction in Drilling on Federal Lands

One of the Biden Administration’s first actions was to cancel a key permit required for completing the Keystone Pipeline. The Keystone XL Pipeline was proposed in 2008 to bring oil from Canada’s Western tar sands to U.S. refiners. “This is a landmark moment in the fight against the climate crisis,” said Jared Margolis, a senior attorney at the Center for Biological Diversity. “We’re hopeful that the Biden Administration will continue to shift this country in the right direction by opposing fossil fuel projects.” [5]

During the 2020 presidential campaign, President Biden had urged a complete end to drilling for oil and gas on federal lands, but courts disagreed with his initial moratorium that he signed when he took office. Recently, in response to higher prices, the Interior Department said there would be some new leasing, but it would come with a royalty rate of 18.75%, up from the previous 12.5 rate.[6]

Biden Administration is to Blame – Promoting Electric Vehicles While Discouraging Fossil Fueled Car Sales

On June 9th, the Biden Administration announced new steps to meet President Biden’s goal to build out the first-ever national network of 500,000 electric vehicle chargers along America’s highways and in communities, a key piece of the Bipartisan Infrastructure Law. The Department of Transportation, in partnership with the Department of Energy, is proposing new standards to make charging electric vehicles (EVs) easier for their owners. President Biden is pressing Congress on his plan to provide tax credits that make EVs more affordable.[7]   President Biden has a target of 50% of cars sold in the US by 2030 being electric.

Closing Thoughts

Today’s high energy prices are the result of multiple factors affecting supply and demand for oil production – it is not as simple as pointing out a single problem to blame. For gasoline prices, in addition to the cost of oil, a shortage of refining capacity also factors in.

The last refinery built in the US with significant downstream unit capacity is Marathon’s facility in Garyville, Louisiana. This came online in 1977, 45 years ago.[8]  Why haven’t more been opened?  A refinery like this would cost billions to construct today and there would need to be a long-term expectation of refining volumes to offset the initial investment and to provide a return for investors.  Given the Biden Administration’s goal of net-zero carbon by 2050 and 50% EV sales by 2030, potential investors have not been persuaded that the risk return tradeoff of a new refinery would be worthwhile.

WTI Strip Prices Decrease

Fueled by Tuesday’s sell-off, spot prices and futures prices for the WTI contract decreased by approximately $14.00 per barrel in the near term, and by approximately $7.00 per barrel over the longer term.

As shown, the oil price curve remains in a state of “backwardation,” reflecting the market’s expectation of lower future spot prices.

Oil Price Outlook

The price distribution below shows the crude oil spot price on July 5, 2022, as well as the predicted crude oil prices based on options and futures markets. Blue lines are within one standard deviation (σ) of the mean, red lines are within two standard deviations.

Based on these current prices, the markets indicate there is a 68% chance oil prices will range from $70.00 and $125.00 per barrel in mid-October 2022. Likewise, there is roughly a 95% chance that prices will be between $43.00 and $190.00. By mid-December 2022, the one-standard deviation (1σ) price range is $63.00 to $131.00 per barrel, and the two-standard deviation (2σ) range is $34.50 to $215.00 per barrel.

Key Takeaways

Remember that option prices and models reflect expected probabilities, not certain outcomes, but that does not make them any less useful. The heightened volatility caused by recent events has led to extraordinary futures price ranges. While the mid-December 2022 settlement price is $86.95, the 1σ range has a spread of $68, and the 2σ range has spread of over $180 per barrel!  These factors add up to a challenging price environment for capital allocation decisions.

For more information, contact:

Gregory E. Scheig, CPA/ABV, CFA, CMA
Vantage Point Advisors
Managing Director / Energy Practice Leader
Certified Mineral Appraiser
180 State St., Suite 225, Southlake, TX 76092
214.254.4801
gscheig@vpadvisors.com

 

[1] Forbes, The U.S. Remained The World’s Top Oil Producer In 2020, Robert Rapier, July 29, 2021, the-us-remained-the-worlds-top-oil-producer-in-2020 https://www.forbes.com/sites/rrapier/2021/07/29//?sh=6a85a95f5a6c

[2] Exxon Mobil, Shell, Valero, Marathon, Phillips 66, BP and Chevron.

[3] https://thehill.com/policy/energy-environment/3531408-biden-energy-chief-to-meet-with-oil-executives-on-thursday/

[4] https://energynow.com/2022/06/macron-tells-biden-that-uae-saudi-can-barely-raise-oil-output/?source=de&wtv=ddarm@verizon.net

[5] https://www.cnbc.com/2021/06/09/tc-energy-terminates-keystone-xl-pipeline-project.html

[6] https://www.cnbc.com/2022/04/15/biden-administration-to-resume-leasing-for-oil-and-gas-drilling-on-federal-lands.html

[7] https://www.whitehouse.gov/briefing-room/statements-releases/2022/06/09/fact-sheet-biden-harris-administration-proposes-new-standards-for-national-electric-vehicle-charging-network/

[8]https://www.eia.gov/tools/faqs/faq.php?id=29&t=6#:~:text=The%20newest%20refinery%20in%20the,which%20began%20operating%20in%202019.