Upcoming Volatility:

2021 was a very volatile period for oil and gas operators, investors, and traders alike. The continuing pressure of COVID-19 constraining partial economic growth in major markets, unexpected high demand growth for crude oil, natural gas and petroleum products, and a hard-fought market stabilization by OPEC+, have all shaped this past year. In recent months, however, another event has popped up, coming as a surprise to some. Major OECD markets, especially the EU, USA, and China, are feeling the negative impact of energy transition and lack of stores, resulting in a so-called energy crunch. Demand for hydrocarbons in these key global markets increased substantially, while domestic production and backup storage represented major constraints. European natural gas markets are in for a cold winter, as their main natural gas supplier, Russia, has encountered parallel domestic and foreign crises. These issues include the geopolitical wargames in Ukraine and Belarus and the construction of the new natural gas pipeline, Nord Stream 2.

On the global level, crude oil markets have also become a politically sensitive phenomenon, especially considering the growing confrontation between the US Biden administration and OPEC+. In several serious statements, the Biden administration called upon OPEC+ leaders to produce more crude oil to lower overall oil and gas prices. Until now, the oil consortium has not complied with the repeated requests made by Biden and other world governments, as it maintains that the market is generally well-supplied. However, this issue is still subject to major COVID-19-related demand issues or a major economic slowdown.

At the same time, the role of energy transition and climate change policies continue to exacerbate conditions further. Last year, the world was fully focused on the discussions and possible agreements of COP26 in Glasgow (UK), where a new set of initiatives should have been proposed to reach a low-carbon or net-zero energy scenario. Even though COP26 participants had come to some important conclusions about the role of governments and industries in reaching lower hydrocarbon levels in the future, no real strict position was taken. Most countries, including the overwhelming majority of OPEC producers, put their support behind a net-zero goal. Saudi Arabia, UAE, and others committed to a net-zero scenario by 2050-2060, while oil and gas companies, such as Saudi Aramco, ADNOC, ExxonMobil, Royal Dutch Shell, and Total, even stepped up their own obligations and plans. While the optimism was present, COP26 also showed a growing split between producer and consumer countries. While Western hydrocarbon consumer countries have called for stricter regulations and lower emissions, pushing for a much more aggressive energy transition, exporting countries and emerging markets, especially Africa, were much more cautious. African oil and gas producers have even warned that a strict COP26 energy transition would hinder their future development and economic growth potential.

2022 is expected to be unpredictable for all parties involved. Since assessments of mainstream oil market developments are divergent, crude oil demand is the key critical factor for most. As the COVID-19 Omicron variant resuscitates the threat of a widespread pandemic and wreaks havoc in EU, UK and US markets, crude oil producers fret over the overall impact these conditions will have over the next 12 months.

And yet, optimism still lives on, as most markets are showing a strong bullish sentiment, even though current oil prices do not reflect this at the moment. While most market analysts struggle with their own forecasts, mainstream organizations such as the International Energy Agency (IEA, the OECD energy watchdog), US Energy Information Administration (EIA), and OPEC have all updated their 2022 predictions. While the IEA and EIA are rather skeptical about Q1 2022 demand, OPEC remains confident in strong overall demand. The EIA and IEA have both cut demand forecasts for Q1, but OPEC is strongly bullish, and as such, the latter’s demand growth outlook has been revised by 1.1 million bpd. The oil producer organization is less worried about the full-scale impact of Omicron, expecting it to be "short-lived and mild." All in all, many others also anticipate overall economic growth, thereby underpinning demand.  This overall demand growth is linked to Asia’s economic potential and development projections. China and India are leading the charge in this regard, bolstering OPEC’s view that global crude oil demand growth in 2022 could reach around 5.3 million bpd. The EIA also has set this potential growth at 5.34 million bpd.  Only the IEA holds negative views of the market and has slashed its outlook for Q1 2022 and the whole year. The Paris-based agency expects a 630,000-bpd demand cut in Q1 2022, mainly due to lower demand for jet fuel/kerosene.

This scenario, however, is complicated, as international banks, such as Goldman Sachs, JPMorgan, etc., maintain a wide range of views. Some predict lower crude oil price settings for 2022, while others still cling to the possibility of $100+ price levels, or even a $150 per barrel option. In general, no one expects a drop in oil prices as seen in 2020. If any rationalism returns to the market, then oil prices could be propelled upward due to growing concerns over lack of investments, possible supply constraints, and underestimated geopolitical risks, such as Ukraine, Iran or a conflict between China and Taiwan.

In contrast to 2021, hydrocarbons could become the main focus in global gas markets in 2022. The ongoing European energy crunch is a possible warning sign that oil supply and demand is headed for a major showdown.

The weaponization of commodity trading, as demonstrated by Russia, and the growing discrepancy surrounding the expected impact of renewables on overall energy markets, presents Western economies with a full-scale crisis. Increased investments in wind and solar, while leaving natural gas supply security to market players, has proved to be the main reason for the current instability in mainstream energy markets. European countries are faced with prolonged gas shortages, not only due to geopolitical conflicts with Russia, but also because they have not realized that natural gas supplies and stores are weak. At the same time, surprisingly strong global economic growth has pushed demand for natural gas to historic levels, but supply has not kept pace. Lower domestic production in Europe (Groningen and Norway), lack of Russian supplies, and political conflicts have pushed natural gas and LNG prices to unexpected levels. Asian demand has also shown peak demand, supported not only by economic growth, but also by China and Japan’s willingness to pay record prices for its energy imports. Severe market competition is also expected in 2022, especially if current geopolitical conflicts heat up any further.

This year could be the first real test case for global energy supply and demand. Confronted by strong economic growth and energy demand, the world’s supply is insufficient for keeping prices down. Potential regional or global conflicts could push the market to a full-scale crisis, especially with regards to price levels. Moreover, the results of low investment levels in upstream hydrocarbon production and exploration over the last decade will rear their ugly heads. Potential lower hydrocarbon production is expected in non-OPEC countries, mainly Africa, but several OPEC+ producers seem to have trouble fulfilling their own production agreement levels. Increased production in the UAE or Saudi Arabia will not be enough to stabilize markets, so long as doubt about spare-production capacity is present in the market. Increased renewable energy production will also not bring any relief, as it is still constrained by the lack of storage options and greater instability due to intermittency.

Zooming in on the GCC region, a wide pallet of issues are on the table. Leading OPEC producers, especially Saudi Arabia and the UAE, are preparing for a full-scale production capacity increase by adding another 2-3 million bpd of capacity before 2025. Meanwhile, the need for strong crude oil and gas prices is clear, as ongoing economic diversification projects are necessary and capital intensive. There is also the need to finance the total restructuring of rentier states economies, but this could hit several major speedbumps along the way. While financing is available, possible inflation or an end to quantitative easing in the USA and EU would have its own negative repercussions on GCC markets as well.

Countries such as the UAE or Saudi Arabia will also fully embark on a program of energy diversification, as already seen during 2021. These countries will place greater emphasis on decarbonizing the economy while also investing in major new renewable energy projects. The move in Abu Dhabi to set up possibly the world’s largest renewable company, via the merger of Mubadala-ADNOC-Taqa with its Masdar stakes, is a prime example. In 2022, it will also become clear if the proposed (green) hydrogen plans and projects materialize. Despite the undoubtedly positive fundamentals underlying solar, wind and hydrogen production, the lack of grid capacity and demand represent a potential bottleneck to their development. In this regard, hydrogen is still an underdeveloped market, especially on the demand side. Global and regional projections are high, but the reality still lags far behind.

In short, GCC economies will remain heavily hydrocarbon dependent for the foreseeable future. Crude oil and gas production increases are expected, along with a new emphasis on unconventional options. The major multibillion dollar Al Jafurah project in Saudi Arabia could be a game changer, which may be followed by possible offshore shale exploration and production at Al Khaleej Field in Bahrain, the first of its kind in the world. Feasibility and commercial attractiveness, however, will once again depend on hydrocarbon price developments and looming geopolitical risks overall.