Presidential Race Threatens Headwinds for Energy Sector
The market has become a little complacent in pricing while focusing on the reelection of President Donald Trump, OANDA senior market analyst Edward Moya said. “The risks are pretty high. While Trump is still the favorite, we still could see a progressive candidate come out with the nomination. It would be bad news for the U.S. oil industry.”
Noted is that among the highest-polling candidates, populists Sen. Elizabeth Warren (D-Mass.) and Bernie Sanders (I-Vt.) have pushed hardest for policies aimed at severely limiting the U.S. oil sector, including a ban on exports, hydraulic fracturing, and leasing in federal waters. Other candidates, including frontrunner Joe Biden, have taken a more measured approach, not committing to all-out bans, but indicating that new limits and additional regulation would be considered. “If Trump wins it is status quo, but any Democrat—even if it’s not a populist—would be under tremendous pressure to throw the base a bone, and this is a bone they would throw,” said Bill O’Grady, Confluence Investment Management chief market strategist.
U.S. oil output has surged in recent years following the lifting of a decades-old crude oil export ban in late 2015 that allowed producers to ship surplus barrels aboard. Previously, most U.S. production had to be consumed domestically by refineries, the bulk of which are tooled to run cheaper heavy, sour crude imports from the Middle East and Venezuela. This limited domestic appetite effectively put a ceiling on the mostly light, sweet crudes being produced in the Permian Basin and other tight oil plays.
The buildout of significant U.S. Gulf Coast pipeline infrastructure during the Trump administration further incentivized U.S. production by de-bottlenecking West Texas oil plays and propelled U.S. crude output and exports to record heights in 2019. U.S. crude production steadily increased last year to more than 12.8 MMbbld in December from about 11.8 MMbbld in January. At the same time, exports soared to a weekly peak of 4.46 MMbbld in late December, according to the Energy Information Administration. U.S. output growth is already slowing, with producers unwilling to boost spending and drilling at current prices, and capital drying up. A recent Dallas Federal Reserve survey showed the industry is already concerned about increasingly limited access to capital, stagnant prices, and looming bankruptcies in the Permian and other U.S. shale plays. “If Trump wins, it’s helpful for oil supplies in the short run,” O’Grady said. “The market would take a populist victory as bearish for oil stocks, but probably bullish for prices as it would reduce supply.”
On average, about a quarter of U.S. crude oil production was exported each week in 2019. With U.S. refineries maxed out on how much light, sweet crude they are willing to take, an export ban would likely flood local storage capacity and force producers to cut output or risk glutting the market. “A [Democrat] wouldn’t have congressional support across the board so some restrictions might be hampered, but I think you would see further consolidation in the industry, and even the mention of an export ban would weigh on the sector,” Moya said.
Crude export facilities along the U.S. Gulf Coast have grown their capacity from about 5.4 MMbbld at the start of 2019 to a current estimate of about 7.7 MMbbld, according to S&P Global Platts Analytics. And that capacity will likely grow to more than 8 MMbbld in 2020 as several major infrastructure projects are expected to commence operations.
Oil commodity markets are not yet pricing-in election policy risks, analysts said, but volatility is expected to increase during the second half of this year as the November election draws closer. Instead, these risks have mostly manifested in the energy equity space. Energy stocks have struggled to keep up with an equity price boom. The S&P 500 Energy Index finished 2019 around 5.5% higher, compared to a nearly 29% annual increase in the broader S&P 500 Index, Platts data shows.
“Energy equities have been a real laggard this year. We have come to the conclusion that this is not a one-off, but part of a broader trend,” O’Grady said. “If energy stocks continue to languish, we probably will see drilling activity roll over, oil stocks tighten, and prices rise. This looks like a direction thing. This election could accelerate or decelerate this process, but I think this trend is in place. This is the world we are heading toward and it’s not oil friendly.”
(SOURCE: The Weekly Propane Newsletter, January 26, 2020. Available by subscription)
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