Gas problem?


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Presenter: Lindsay Williams Guest(s): Adrian Jackson

A dramatic hike in the price of natural gas from Russia to Europe, rebel threats to oil facilities in Nigeria, and uncertainty over Iran’s nuclear ambitions sees the price of crude oil spike. Classic Business Day gets Adrian Jackson, energy analyst at Investec Asset Management, on the line from London

LINDSAY WILLIAMS: The gas price in the UK and Europe went through the roof with the well-publicized dispute between Russia and the Ukraine, and that’s had a knock-on effect on the oil market. Then we’ve got Nigeria and Iran, and a cold snap in Western Europe over Christmas and New Year. There are so many fundamentals - and the basic fact is that the crude oil price is $67 a barrel - but should it be up there when there is a lot of crude oil around? Adrian, it’s quite an amazing time we’ve had - maybe we could go back to what sparked the latest bounce in the crude oil price to $67 a barrel in the US, and around $65 for Brent crude?

ADRIAN JACKSON: The price had come of after the hurricanes peaked in the US - we got $70 and then we saw demand was slowing in the US with lower gasoline sales with the high prices there, and then the north American winter came in warmer - so we tracked all the way down to $55. As you mentioned, the dispute between Russia and Ukraine on sending gas to Europe suddenly woke the markets up to the fact that we are still pretty tight on the supply side, and if you have some outage - be it gas in Europe - that has to be replaced by oil, then prices will tick up as we’re short of supply. So that was the first thing - since then obviously the unrest in Nigeria that’s caused Shell to shut 200,000 barrels a day of crude capacity, and then the ongoing concern that there may be cut-backs in Iran. They’re currently producing just under 4 million barrels a day, so they’re an important contributor to the oil market. So we’re getting into a tight period - one of the saving graces is that we’re moving into the second quarter in the northern hemisphere, where demand for oil will drop by 1.5 to 2 million barrels a day. So that will give us a little bit of respite, but we could well see spikes up above where we are today.

LINDSAY WILLIAMS: It’s quite an interesting situation - and rather a paradoxical situation - because in fact there’s a lot of crude oil around. When you crack that barrel of crude oil into the various distillates - the various products - the simple fact is that it’s not crude that the people want, it’s the gasoline, the heating oil and other things - so is it a slightly false situation to see crude itself at $67?

ADRIAN JACKSON: The thing is that especially in the US refining capacity is extremely tight - they’re still not back to pre-hurricane levels. Now that prices have come down in the US demand has been growing strongly - gasoline sales continue to grow 2% year on year - so we’re going to be tight on gasoline in the US, and we’re seeing a big rise in imports from both Europe and Asia into that market. So the real tightness at the moment is on refined products - as you’ve mentioned - and that’s why the refiners prefer light crude, because they can get more gasoline, diesel and jet fuel from their barrels. That’s what drives up the price of the light crude. The sophisticated refineries can benefit from buying much heavier crude, which is trading at an increasingly wide discount - in the Gulf they buy Mexican crude at a $15 to $16 discount to the WTI market price.

LINDSAY WILLIAMS: So clever hedge fund managers that focus on energy might be saying to themselves: “We’ve got this gas problem in Europe, we’ve got plentiful supplies of crude oil - but the products are in short supply.” I would imagine that there’s a lot of switching going on between energy types, and not just short-term switches - long-term switches as well. Coal seems to have been one of the recipients - in terms of price with the crisis in energy worldwide?

ADRIAN JACKSON: Coal is, if you like, just another energy source - primarily for power generation. What you’re seeing is in the US is an increasing switch to using coal-fired power stations - so the utilisation of the power stations there is much higher, and that’s displacing the gas-fired power stations where fuel costs can be three or four times that of coal. So you’re also seeing further investment in the US in clean coal-fired power station technology to increase capacity there.

LINDSAY WILLIAMS: Who would have thought it! Everyone said that coal was a dying commodity, and we’re never going to use coal again because it’s polluting and dirty - here we are back with coal again. Let’s try and make money out of this - if we’re going to be choking on coal dust for the next couple of decades as the world sorts itself out, let’s at least be rich while we’re doing it. What energy stock should we be buying?

ADRIAN JACKSON: In the short term we are getting the benefit from higher oil prices, but as we move into the second quarter that might roll off - so I wouldn’t necessarily plum for those stocks that are levered to the oil price itself. I like the US refiners - the tightness in capacity there is likely to drive refining margins. The largest of the US refining stocks is a company called Valero Energy - they’ve had a phenomenal performance so far, their fundamentals are very good. Another sector - with the higher oil prices over the last couple of years, a lot of the oil companies and Opec countries are now investing in more capacity, and oil field construction, technology, equipment - companies in that sector are seeing very strong price rises, and are benefiting from that. I like that market - the drilling companies, the equipment and service providers.


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