Volatility has hit the oil market as demand uncertainties rise with the onset on the Omicron variant. Kim Parlee speaks with Hussein Allidina, Head of Commodities at TD Asset Management, about whether the recent price decline is overdone and the outlook for 2022.
Hussein, it's great to have you with us. I want to bring up a chart that we've got here, taking a look at the oil price. What's going on here? You think the drop is overdone, is that correct?
- Hey, Kim. Thanks for having me back. Yeah, I do think it's overdone.
If you take a look first at when the drop happened, it occurred at a period of relatively low liquidity in the market. It was the Friday following Thanksgiving, when the Omicron concerns really reared their head. I think if you take a look at the price action and the decline that we saw at the lows, it was pricing in a demand loss of 5 plus million barrels a day. The fundamental data doesn't point to that, and the latest data that we've seen on the virus looks a little bit more optimistic than we originally thought. So I think it's a bit overdone.
- So the demand side obviously was with the big push on oil prices, so where do you see going, or where do you see demand going back to? I mean, people are feeling like that's getting priced back into the market right now. We're seeing a bit of a recovery. Where will demand be?
- Yeah, so I think most forecasts still point to at least a couple of million barrels a day, if not more of growth into 2022. The high frequency data that we look at, Kim, is not showing a material reduction in mobility trends or an activity. I do think that virus concerns will temper demand on the margin, but I don't think it's congruent with the price action that we saw around Thanksgiving.
- What about supply side? OPEC says it's sticking to production quota, and at the more meta level, we know that there's been less investment in the oil sector overall because of ESG. So what do you see there?
- So OPEC did come out and confirm that they will continue to increase production by the agreed upon 400,000 barrels per day-- per month into the forecast horizon. I think that surprised some people in the market, but it's interesting-- the market actually prices actually traded higher into the close on that day and have been supported since then. OPEC has left the door open to manage the market. They haven't officially adjourned the meeting.
And I do think that if conditions were to deteriorate, they would respond by curtailing production. The fact that they continue to increase production I think talks to the market. Saudi actually increased official selling prices to refineries in Asia. And I think that as well as the relative robust refinery margin environment points to still pretty firm demand.
- Hmm. Can we dig in a little bit on the refiners? What are you seeing there, and what should we be paying attention to?
- Yeah, so typically if there was a material destruction in demand, or if demand was weakening, you would expect that the prices of the finished product, the stuff that you and I consume, Kim, gasoline, distillate, those prices would come off more arguably than crude prices. Refinery margins have actually stayed relatively firm, and that tells me that demand isn't as weak as kind of, that initial price action suggested.
- What has been the impact on all of this for companies? I mentioned kind of, the meta level. I mean, there's less money going into the sector. Also, when companies are figuring out their CapEx, what they're going to get ready for the upcoming years in terms of drilling or whatever, what are you seeing there?
- Yeah, so I think the heightened volatility is not helpful. The lower price is not helpful for CapEx and for sort of spending plans into 2022. It's an interesting time of year because we are looking at capital budgets into the following year.
Ultimately, the volatility of the weaker price is going to shave projected barrels or estimated barrels I think from the balance next year. So, you know, again, bigger picture fundamental picture is still quite constructive. The risks are obviously around. Demand weakening more than expected on the heels of this virus. I'm not seeing it yet.
- Yeah. I'm doing a mental ledger, Hussein, from what you're saying. I'm seeing demand maybe a bit down, but CapEx puts the pressure up. Less investment, more pressure up. So are you seeing prices higher than we are now in 2022?
- Yeah, I think we continue to grind higher, Kim, through '22 and into '23. If you look at fundamental balances, they're pointing to still draws through at least the first three quarters of next year. OPEC increasing production also results in less spare capacity. And I think you're going to see-- we might have talked about this before, but you're going to see the market increasingly focus on the relatively low level of spare capacity that we have.
And bigger picture, when you zoom out 30,000 feet, there isn't a ton of incremental supply outside of that OPEC spare capacity that is available to meet growing demand.
- It's an interesting thing to watch. Hussein, it's always a pleasure. Thanks so much for joining us.
- Thanks, Kim.