The invasion of Ukraine and the economic sanctions applied to Russia as a consequence have completely changed the reality of the energy industry. In the first days of March, the WTI oil barrel reached around 125 dollars per barrel, and then fell back below 100 dollars. Until a few weeks ago, reaching this last value was seen as a very negative scenario, but today it is seen with different eyes.
A first question that arises is why production in the United States, one of the main producers, has not increased. In the first place, this would take time. But, beyond that, the plan of many producers for this year was to increase their volumes by between 2% and 5%, leaving a significant part of their cash levels to return money to their shareholders, who had seen poor returns in previous years. These plans will not be easy to reverse.
To understand the above we have to go back to 2012 and 2013, when shale oil producers enjoyed a period of bonanza, as the WTI barrel was above $100. But already in 2014 the production of OPEC (Organization of Petroleum Exporting Countries) countries grew, ensuring a fall in prices and a reduction in the margins of many U.S. producers. Investors in these companies are the ones today demanding returns and are reluctant to expand production. In fact, since 2014 it was very common for the energy sector to earn returns below the S&P 500 index average.
Add to this the high price volatility we have seen in recent weeks, which is not good when it comes to planning long-term investments. Of course, a solution could come from new investors. However, many large investment funds have avoided the fossil fuel sector. It is not clear whether this has been a product of the relatively low returns of recent years or the result of pressures to invest in sustainable sectors (known as ESG).
In either case, the result has been a lower flow of capital for investment. However, this reality has begun to change. The first quarter of this year has been favorable for the energy sector and there are flows into the sector, especially for oil and gas producers. Even with a price of $90 per barrel, the industry is highly profitable in the United States. Large companies tend to make projections with much lower prices, around $50.
Another interesting aspect is what happens with liquefied natural gas. All indications are that the United States will sell more to Europe, although this will take time to materialize, as the terminals to receive the shipments take time to build. Countries such as Qatar and Australia can also help reduce Europe's dependence on Russian gas. Today, Russia has a tremendous advantage over these competitors, as it can export at much lower cost, since it does so through a pipeline. In addition, Russia can supply large quantities and very quickly, all of which gives it great market power. In the long run, Europe could pay much less by importing from other countries. This difficulty in switching gas suppliers quickly has led some countries, such as Italy, to step up production at their coal-fired plants. From an environmental point of view, it would obviously be better to be able to use gas.
In the short to medium term, we can expect the price of oil to remain volatile, moving between $80 and $120 per barrel, largely as a result of geopolitical considerations. For example, a peace agreement between Russia and Ukraine would drive prices down. Even so, we can expect prices to remain relatively high going forward, as Russia has fallen out of favor with the West. Indeed, we have already seen projections that Russian production will fall by three million barrels during the second quarter of this year, an amount that could not be replaced by OPEC, even if sanctions against Iran and Venezuela were lifted.
In the long term, with higher levels of investment to increase production capacity, countries such as Mexico, the United States, Canada and Australia could help the West to reduce its energy dependence, in oil and gas, on Russia and the Middle East. Until that happens, however, energy prices can be expected to remain high.
Originally published in spanish in: