Shell is the largest oil company in Europe and one of the biggest in the world. Its assessment of the industry and the direction of the price of oil is probably as accurate as any. The firm sees crude prices rocketing up.
Bloomberg reports that the CEO of Shell believes that “The economy will turn, demand will come back and the overcapacity of supply will disappear.”
That reasoning is sound. Many oil traders believe that the price per barrel will drop from where it is now, near $70, back in the direction of $50 because the erosion of demand caused by the recession will not support the the current level.
The oil industry lost many of its incentives for exploration when crude dropped to $30. The largest companies in the industry decided to save money which would normally have gone to capital expenditures and work to drill more fields. They can maintain those cuts, at least for awhile. As crude prices go back up, the cost controls couple with rising revenue should significantly increase the industry’s margins even if it is at the expense of consumers and businesses that rely on transportation.
The belief that the economy will hold down demand may also be false. There is a great deal of evidence that the economies of China and India have already begun rebounding. A cool winter in the Northern Hemisphere could cause an increase in demand even if the US, UK, and EU are still stuck in a recession.
The factors that make the Shell prediction true this year could get much more troubling in 2010 and 2011 as the Western and Japanese economies will likely have some economic recovery. Oil prices could be back to $100 in the blink of an eye. Then the question is whether that will cause a second recession.
Douglas A. McIntyre
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