As 2020 ends and 2021 begins, it's customary to make predictions. However, predictions are at least as likely to be wrong as right. (See Daniel Kahneman’s work or just consider if anyone could have predicted 2020 accurately).
Rather than rely on forecasts, judicious traders will keep track of what is happening in the industry and adjust their perception as events unfold. Here are five factors that traders and oil market watchers should follow particularly carefully in 2021:
1. U.S. Government restrictions on oil and gas exploration, production and exports
During the presidential election season, a popular refrain among Democratic candidates was that in order to combat global climate change they would hamper the ability of the oil and gas industry to produce, transport and sell fossil fuels. Then-candidates Joe Biden and Kamala Harris both said they would support measures to curb fracking, which provides a great deal of the oil and gas produced in the U.S.
Biden was inconsistent in his statements. At one point during the campaign, he promised he would not “ban fracking,” but he also promised that he would, “ban fracking.” Now that the election is over, there is still a lack of clarity over what energy policies a Biden/Harris administration will support.
One issue to keep an eye on is a ban on new leases for oil and gas production on federal land. This is the policy that seems most viable for a Biden/Harris administration and, if implemented, could impact twenty-five percent of U.S. oil production. The policies proposed by the Biden campaign include blocking new leasing and new permitting, which could include drilling plans on current leases. This could impact both future production and current production but could also prompt legal fights that might last for years. Some E&P firms have tried to prepare for this prospect by preemptively securing federal leases or focusing their production on privately owned land.
For those watching the market, it is unlikely that new policies would have a significant immediate impact on oil and gas production, but they could alter market perception. Moreover, we could see the effect of such policies on production in the not-so-distant future, depending on the type of regulations.
2. OPEC+ power struggle
The end of 2020 saw an interesting power struggle develop within the OPEC+ group—the UAE and Russia sided together against Saudi Arabia in favor of increasing production. The struggle ended in a compromise favoring Russia and the UAE, whereby OPEC+ will consider gradual increases in production on a monthly basis. The first such meeting will take place on Jan. 4.
Given how well oil has performed since OPEC+’s decision in December, Russia and the UAE will likely push for another production increase.
These monthly meetings that OPEC+ seems to be adopting may allow the group to better manage its oil production along market trends, but the increased number of discussions mean more opportunities for fissures to develop within the group. After the perceived split between Saudi Arabia and Russia in December, the two countries made a show of convergence with Russian Deputy Prime Minister Alexander Novak and Saudi Oil Minister Prince Abdulaziz bin Salman sharing a festive meal in Saudi Arabia and reaffirming their commitment to balancing the oil market.
Market watchers shouldn’t be lulled into complacency by these public relations moves. There are still real differences in oil market policy between these two and also a UAE that is increasingly exerting power beyond Saudi Arabia’s shadow. More frequent OPEC+ meetings could result in a power struggle that traders will need to watch.
3. Global travel
Global oil demand has made a significant comeback since April 2020, but there are still hurdles preventing it from returning to 2019 levels.
Global travel and the impact on jet fuel demand has been persistently weak in 2020. Many expect it to come back in 2021, but traders should not accept this as a given.
There is an expectation that pent-up demand for travel will result in huge demand once more when travel is permitted by government authorities. However, traders should also be prepared to see only incremental or inconsistent growth in jet fuel demand.
The recession; business shifts towards virtual events; fear of travel; the inconvenience of masks, testing and distancing; forced quarantines; and warnings from health officials could also keep global air travel—and therefore jet fuel demand—depressed well into 2021 even if vaccines are widely dispensed.
4. Second dip recession
Yes, there’s a lot of stimulus money out there that governments are issuing to try to keep their economies afloat, but we could also see a second dip recession in 2021. A large number of people and businesses in every major economy have suffered tremendously from the 2020 restrictions, and the macro-economic impact of some of that suffering may not appear until 2021.
Many businesses have closed during 2020, but others have struggled to stay open. Even among those that manage to survive long term, lots of business owners took home less pay in 2020 and will take home less in 2021 than they had hoped a year ago.
Moreover, even as vaccines are administered globally, we see jurisdictions such as California and the U.K. continuing lockdowns and toying with new restrictions. We cannot forecast the full economic toll from events in 2020 that will come in 2021.
Nor can we forecast if, how or when jurisdictions will open fully. However, these are issues that traders must watch.
5. Capex and New Discoveries
When the price of oil began to fall in H2 of 2014 and then stayed low in 2015, most oil companies cut their capex. There was hope by the end of 2019 that prices would be higher or at least more stable, which led to hopes for larger exploration budgets.
However, 2020 happened, and almost all oil majors decided that they could not commit to much capex. Even ExxonMobil (NYSE:XOM) and Saudi Aramco (SE:2222) have had to change course and admit that they cannot continue investing much for the future right now.
This industry-wide decommitment from exploration is expected to lead to a dearth of new discoveries of oil reserves. It has now been six years since the start of 2015, and we should be seeing the impact of low exploration budgets.
This is less relevant to traders who bet on monthly oil contracts. For industry, however, and for those purchasing oil assets and rights, it is vital to keep an eye on new discoveries.
How will new discoveries in 2021 compare to previous years? Is an oil shortage on the horizon? (Note, there is a theory that potential new discoveries are dwindling because there is a finite amount of oil in the ground. However, this theory has been proposed for 70 years. Moreover, this theory does not negate the possibility of a future oil shortage, whether it is caused by low capex or by the end of oil in the ground).