The price of oil has risen to multi-month highs as traders assess potential supply concerns. Hussein Allidina, Head of Commodities at TD Asset Management, speaks with MoneyTalk’s Greg Bonnell about the recent moves and whether those gains are likely to continue.
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Oil prices have been on the rise as geopolitical events grab the attention of investors. But is there more going on with the price of crude than just a risk premium? Joining us now to discuss, Hussein Allidina, Head of Commodities at TD Asset Management. Hussein, always great to have you on the show. Welcome back.
Hey, Greg. Thanks for having me. Sorry I'm not there in person today.
Oh, not at all. Not at all. You're looking great in the remote view. Let's talk about what's been driving this recent breakout in oil. What is going on here?
Yeah, so, clearly, in your lead-up, you mentioned geopolitical concern. That is something that has been in the background definitely for the better part of the last five months and more recently with the increased attacks in the Red Sea. But I think when we look at fundamentals, heading into the year, the market, most participants were of the view that we would see inventories building in the first quarter of this year.
First quarter is not done, but January, we've seen pretty large draws. February has built but as normal. The most recent data shows us that inventories continue to drop. So I think this is quite constructive. We're seeing demand quite firm.
I think I've got a chart there that shows US gasoline demand here south of the border. And US gasoline demand is quite firm and is actually at levels that you would expect to see in the summer. We're not in the summer yet. The weather has been quite mild-- maybe encouraging some more driving.
But demand is quite firm. And when we bring all this together, Greg, it has contributed, as I mentioned, to a tighter inventory picture than was expected. The starting point was very tight inventories. We thought we were going to get some builds in the first quarter.
Those haven't materialized. And because of that, the backwardation or the steepness in the crude market is still quite pronounced. This chart shows us the WTI forward curve as of yesterday. And you can see that the steepness has become more pronounced relative to where we were a week ago, a month ago. This underscores the tight supply demand picture, Greg.
You talked about emerging markets. And, obviously, there's demand there. But you mentioned something pretty important here-- the fact that OPEC has held firm to its commitments to keep the supply side tighter than, perhaps, it needs to be. Walk us through that.
Yeah. So OPEC has reduced production. And because they've reduced production, that has, obviously, contributed to tightening balances. What I was getting at is that I'm not in the camp that oil prices necessarily go above $90, $95 a barrel this year, because they would return production to the market if that were to happen. But as a commodity investor, I don't really need the oil price to move materially higher from here.
With the backwardation in the curve, I'm collecting a 10% roll yield or a 10% carry. And that has been engineered by the tight balance that we're seeing in crude end products.
Let's talk about investment in the sector. Obviously, crude prices are moving higher. You said you're not in the camp that they go much higher from here, given the fact that OPEC open the spigots if they want to. But under-investment in the sector, this has been an ongoing theme. I think for as long as we've been doing this show-- almost two years now, and you've been a regular guest-- we have talked about this. And it hasn't really changed all that much.
No. And, look, the truth is we've not been investing in commodities broadly-- oil, in particular-- over the course of the last 10 to 12 years. The growth that we saw last year in non-OPEC supply-- outside of the US shale production, which is relatively short cycle-- came from Brazil, Guyana, and Canada. Those projects are very long lead time projects. We're talking seven, eight, nine years.
And many of those projects, the first capital was spent on them in the last cycle, the last supercycle. So if demand continues to grow, which I believe will if you believe that economic growth continues to move higher, you're going to need to invest. Or you're going to continue to see tighter balances, which will require higher prices to limit demand growth.
One point, Greg-- last year, the market got quite bearish on US production growth. US production growth increased meaningfully in the fourth quarter. I think I was on your show and said, look, part of that increase is likely private producers trying to pretty the pig, trying to grow production so that they could be bought out in the M&A space.
If we look at the more recent data out of the US, production has actually dipped below-- and I'm not talking about January where we had freeze ups in Texas. I'm talking about the data more recently in the last couple of weeks. You're averaging around 13 million barrels a day, which is about 200,000 barrels a day below where we were in the fourth quarter of last year. So we really need to see an increase in investment because demand continues to grow, and my inventory picture is quite tight
Do you anticipate that there will be that? What will it take to get that investment going? What is the incentive price if you think oil doesn't go much higher from here?
So the problem, Greg, is we're above the incentive price today. But because of this focus on ESG and energy transition, equity shareholders have, frankly, lambasted their companies over the course of the last five, 10 years to stay within cash flow and to return cash flow to investors. They continue to do that, which is great in the short-term as an equity investor.
But in the medium-term, your energy company is going to look less like an energy stock because they're not spending in the upstream. Look, I think as prices continue to move higher and stay elevated, you will see some incremental capex. But we're not nearly at levels that we need to see given the dearth of investment over the course of the last 10 years, in my opinion.
How bumpy could that ride be over the next several years if investors are trying to weigh ESG, trying to weigh energy transition with the still-present need for fossil fuels? It doesn't seem like it's going to be a clean path where there's like a handoff at one point clear to the other side and say, hey, we're done. Take it over. It's going to be messy, I would imagine.
Yeah. We've talked about this, right? I think the market's idea on how easy it will be to move from hydrocarbons to renewables is misguided. The world as we know it has been built on hydrocarbon infrastructure over the course of the last hundred years. We're already seeing hiccups as it relates to the availability of EV charging capacity. We're seeing a slowdown in the developed world in the EV sales space because the uptake is slower. I don't think it's going to be clean. I think these ideas that consensus and our governments hold that this transition is going to be seamless is very misguided and very dangerous, if I'm being honest. [AUDIO LOGO]
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Oil prices have been on the rise as geopolitical events grab the attention of investors. But is there more going on with the price of crude than just a risk premium? Joining us now to discuss, Hussein Allidina, Head of Commodities at TD Asset Management. Hussein, always great to have you on the show. Welcome back.
Hey, Greg. Thanks for having me. Sorry I'm not there in person today.
Oh, not at all. Not at all. You're looking great in the remote view. Let's talk about what's been driving this recent breakout in oil. What is going on here?
Yeah, so, clearly, in your lead-up, you mentioned geopolitical concern. That is something that has been in the background definitely for the better part of the last five months and more recently with the increased attacks in the Red Sea. But I think when we look at fundamentals, heading into the year, the market, most participants were of the view that we would see inventories building in the first quarter of this year.
First quarter is not done, but January, we've seen pretty large draws. February has built but as normal. The most recent data shows us that inventories continue to drop. So I think this is quite constructive. We're seeing demand quite firm.
I think I've got a chart there that shows US gasoline demand here south of the border. And US gasoline demand is quite firm and is actually at levels that you would expect to see in the summer. We're not in the summer yet. The weather has been quite mild-- maybe encouraging some more driving.
But demand is quite firm. And when we bring all this together, Greg, it has contributed, as I mentioned, to a tighter inventory picture than was expected. The starting point was very tight inventories. We thought we were going to get some builds in the first quarter.
Those haven't materialized. And because of that, the backwardation or the steepness in the crude market is still quite pronounced. This chart shows us the WTI forward curve as of yesterday. And you can see that the steepness has become more pronounced relative to where we were a week ago, a month ago. This underscores the tight supply demand picture, Greg.
You talked about emerging markets. And, obviously, there's demand there. But you mentioned something pretty important here-- the fact that OPEC has held firm to its commitments to keep the supply side tighter than, perhaps, it needs to be. Walk us through that.
Yeah. So OPEC has reduced production. And because they've reduced production, that has, obviously, contributed to tightening balances. What I was getting at is that I'm not in the camp that oil prices necessarily go above $90, $95 a barrel this year, because they would return production to the market if that were to happen. But as a commodity investor, I don't really need the oil price to move materially higher from here.
With the backwardation in the curve, I'm collecting a 10% roll yield or a 10% carry. And that has been engineered by the tight balance that we're seeing in crude end products.
Let's talk about investment in the sector. Obviously, crude prices are moving higher. You said you're not in the camp that they go much higher from here, given the fact that OPEC open the spigots if they want to. But under-investment in the sector, this has been an ongoing theme. I think for as long as we've been doing this show-- almost two years now, and you've been a regular guest-- we have talked about this. And it hasn't really changed all that much.
No. And, look, the truth is we've not been investing in commodities broadly-- oil, in particular-- over the course of the last 10 to 12 years. The growth that we saw last year in non-OPEC supply-- outside of the US shale production, which is relatively short cycle-- came from Brazil, Guyana, and Canada. Those projects are very long lead time projects. We're talking seven, eight, nine years.
And many of those projects, the first capital was spent on them in the last cycle, the last supercycle. So if demand continues to grow, which I believe will if you believe that economic growth continues to move higher, you're going to need to invest. Or you're going to continue to see tighter balances, which will require higher prices to limit demand growth.
One point, Greg-- last year, the market got quite bearish on US production growth. US production growth increased meaningfully in the fourth quarter. I think I was on your show and said, look, part of that increase is likely private producers trying to pretty the pig, trying to grow production so that they could be bought out in the M&A space.
If we look at the more recent data out of the US, production has actually dipped below-- and I'm not talking about January where we had freeze ups in Texas. I'm talking about the data more recently in the last couple of weeks. You're averaging around 13 million barrels a day, which is about 200,000 barrels a day below where we were in the fourth quarter of last year. So we really need to see an increase in investment because demand continues to grow, and my inventory picture is quite tight
Do you anticipate that there will be that? What will it take to get that investment going? What is the incentive price if you think oil doesn't go much higher from here?
So the problem, Greg, is we're above the incentive price today. But because of this focus on ESG and energy transition, equity shareholders have, frankly, lambasted their companies over the course of the last five, 10 years to stay within cash flow and to return cash flow to investors. They continue to do that, which is great in the short-term as an equity investor.
But in the medium-term, your energy company is going to look less like an energy stock because they're not spending in the upstream. Look, I think as prices continue to move higher and stay elevated, you will see some incremental capex. But we're not nearly at levels that we need to see given the dearth of investment over the course of the last 10 years, in my opinion.
How bumpy could that ride be over the next several years if investors are trying to weigh ESG, trying to weigh energy transition with the still-present need for fossil fuels? It doesn't seem like it's going to be a clean path where there's like a handoff at one point clear to the other side and say, hey, we're done. Take it over. It's going to be messy, I would imagine.
Yeah. We've talked about this, right? I think the market's idea on how easy it will be to move from hydrocarbons to renewables is misguided. The world as we know it has been built on hydrocarbon infrastructure over the course of the last hundred years. We're already seeing hiccups as it relates to the availability of EV charging capacity. We're seeing a slowdown in the developed world in the EV sales space because the uptake is slower. I don't think it's going to be clean. I think these ideas that consensus and our governments hold that this transition is going to be seamless is very misguided and very dangerous, if I'm being honest. [AUDIO LOGO]
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