Oil +10%, coal +15%, gas +20% - how high will prices go before demand falls?
Energy commodities rallied Tuesday, as war in Ukraine showed no sign of slowing. With utilities, refineries and traders scrambling to secure supplies, oil prices traded up ~10%, thermal coal prices rose ~15%, and European natural gas prices spiked ~20%. Following nearly a decade of reduced fossil fuel investment, incremental short-term supplies are near impossible to find, suggesting reduced demand will be required to stabilize prices.
In the oil market, the International Energy Agency stated that a coordinated petroleum reserve release would bring ~60mb to market. While ongoing talks with Iran could bring an additional 50-100mb of floating storage to market in the near term. Nevertheless, prices rose Tuesday, with Morgan Stanly suggesting a $10 geopolitical risk premium should be tacked on to current oil prices.
Thermal coal prices shattered all time records Tuesday, following a record close Monday. Over the weekend, Germany announced plans to build coal inventories. With LNG prices near record highs, Asian utilities are likely to substitute gas for coal as well. And with no significant supply additions planned for 2022, and Russian coal exports already curtailed by logistics challenges, prices show little sign of letting up.
Finally European natural gas prices rallied more than 20% Tuesday. The liquified natural gas market was tight preceding war in Russia, and weaponization of gas exports in March could spell disaster for European energy security. Germany has already announced plans to build gas reserves, and others on the Continent are sure to follow suit.
Energy has largely continued to flow out of Russia throughout the conflict; any weaponization of energy exports by Russia would change existing market dynamics dramatically. Deficit balances before the conflict are likely to grow as European nations looks to secure energy inventories. With prices at-or-near all time highs, traders are trying to determine at what price level demand will begin to fall.
Until recently, governments have worked to provide subsidies in hopes of avoiding a drain on consumer pocketbooks. Regulated price pass throughs from utilities have provided a demand subsidy in Europe, but resulted in several bankruptcies over the winter. Denmark wrote checks to consumers, in hopes of offsetting higher energy bills. On the oil side, famed trader Pierre Andurand indicated that prices remain 50% below all time highs, on an inflation adjusted basis, implying demand can continue to grow from here.
Fossil fuel investors have long tracked the cost of supply when forecasting future prices, as energy markets have been well supplied for much of the past decade. Given shortages across the global energy complex, attention has shifted to the demand side of the equation, and traders are laser focused any impact to demand from historically high prices or government policy measures.
Rising energy prices are sure to provide a boon to producers. Oil companies (NYSE:DVN) (NYSE:PXD), thermal coal producers (NYSE:BTU) (NYSE:CEIX) and European gas suppliers (NYSE:SHEL) (NYSE:NRT) will benefit. However, higher feedstock costs and reduced demand could hurt processors. Utilities are unique, with each jurisdiction providing its own price pass through framework. However, if an oil price spike reduces consumer demand for jet fuel and gasoline, higher input costs and lower demand could provide a headwind to near-term earnings for refiners (NYSE:VLO) (NYSE:PSX).