Energy ETFs Lead Market For 2nd Year
Energy is the best-performing sector for the second year in a row as oil prices reach eight-year high.
The world may be moving away from oil, but prices for the commodity are moving toward their highest levels of the past decade.
It’s somewhat counterintuitive. Most experts, including the International Energy Agency (IEA), expect global oil demand to peak sometime between 2025 and 2035, yet oil prices are at the highest levels since 2014.
It is a tad confusing, but it does make sense. That’s because even though oil demand will likely top out in the coming years, the world will still use oil for years beyond that peak, meaning that much of the infrastructure and investment required for producing oil will need to be maintained.
In other words, oil may be fading away, but it will be a very slow fade. And for as long as oil is with us, it will continue to have value and be the highly cyclical commodity it has always been—from boom to bust and back again.
Top Sector Again
The “boom” phase is where we stand today. The pandemic-led bust in the oil industry, which pushed down prices for West Texas Intermediate (WTI) crude to an unfathomable -$37.63 in April 2020, laid the groundwork for today’s nascent boom.
From negative territory, U.S. WTI now finds itself at $87, while European Brent stands at $90—the best levels since 2014 for both. The United States Oil Fund (USO) and the United States Brent Oil Fund (BNO) are up 71% apiece over the past year.
Meanwhile, within the stock market, energy is the top-performing sector for a second year in a row. It’s the only sector with a gain so far in 2022, up 18.3% year-to-date on top of last year’s 53.3% gain, as measured by the Energy Select Sector SPDR Fund (XLE).
After years of underperformance, energy is once again a hot commodity, though the sector’s 3.4% weighting in the S&P 500 is still dwarfed by others like technology (28.4%), health care (13.2%), consumer discretionary (11.7%) and financials (11.4%).
WTI Crude Oil Prices
Uncertain Outlook
It’s clear that the fortunes of energy have turned around thanks to the rebound in oil and natural gas (which has tripled off its pandemic lows). But whether we are in the early stages of this bull run or closer to the end is less certain.
After demand and prices collapsed due to the pandemic, the supply side responded by aggressively cutting investment in new production, while OPEC and its allies trimmed their output as well.
From a high of more than 13 million barrels per day, U.S. crude oil production briefly dipped below 10 million barrels per day:
US Crude Oil Production
Those lower supplies combined with rebounding demand have spurred this steep ascent in prices we’ve seen. Naturally, that makes investing in new oil production attractive again.
The aforementioned IEA forecasts world oil production will surge this year, though the agency cautions that the buffer against unanticipated demand or supply shocks remains as thin as it’s ever been.
“ … world oil supply is forecast to grow sharply this year, with the United States, Canada and Brazil set to pump at their highest ever annual levels,” while “Saudi Arabia and Russia could set records if remaining OPEC+ cuts are fully unwound,” the IEA said in its latest Oil Market Report.
The IEA reasons that the supply surge could lead to a significant surplus of oil on the market in 2022. However, with inventories starting off “well below pre-pandemic levels” and with little spare production capacity within OPEC, there is little room for error if supply unexpectedly falters or demand grows even faster than expected.
“If demand continues to grow strongly or supply disappoints, the low level of stocks and shrinking spare capacity mean that oil markets could be in for another volatile year in 2022,” the IEA concluded.
Follow Sumit Roy on Twitter @sumitroy2
