Mercuria CEO predicts higher oil prices trend despite growing recession risk

Oil prices will likely trade above current levels of $120/b in the coming years as supply-side constraints more than offset the impact of a potential global recession triggered by spiraling inflation, according to Marco Dunand, the head of commodity trading group Mercuria.

With growing uncertainty over the future of long-term oil demand, producers have been dialing back billions of dollars in upstream projects since 2020, setting the stage for an acute supply crunch in the coming years, Dunand said.

"The bigger problem for me is the lack of big investments in the upstream industry in general. The uncertainty brings a reduced amount of investment. We are reaching a crazy moment where cash flows being generated by listed oil producers this year are close to $1 trillion but only a small percentage is being reinvested in upstream. The rest is being returned to shareholders [through share buybacks]," Dunand told the S&P Global Commodity Insights GEPEC event in London.

ICE Brent crude futures have surged more than 60% this year, fueled by the sanctions fallout of Russia's war on Ukraine. They stood at around $121/b in midday European trade on June 8.

"The short-term price could be going higher if you have a crisis in some producing regions, but I am more worried about next year or the year after due to the lack of investments. That could mean we stay in a higher price environment for the foreseeable future," Dunand said.

Noting a 70 million b/d "discrepancy" between the International Energy Agency's reference case and net-zero oil demand scenarios for 2050, Dunand said growing uncertainty over future oil demand is crimping the upstream spending needed to replace mature field declines.

The comments come two days after Goldman Sachs said Brent crude could surge to a peak of $140/b over the summer and raised its Brent forecast for the H2 2022-H1 2023 period by $10/b to average $135/b due to a "structural supply deficit".

Platts Analytics currently forecasts physical Dated Brent crude slipping to just below $100/b by the end of 2022 and averaging about $90/b in 2023.

Recession risks

As global energy markets reconfigure to deal with a sharp reduction in Russian oil and gas exports, the world is facing an energy crisis "that we have not seen before" which could trigger a global recession in the coming year.

Dunand noted that the US Treasury yield curve has inverted, a historical sign that uncertainty over future returns is rising and which has been a precursor to previous global recessions. In April, the difference between the 2-year and 10-year US Treasury yields turned negative for the first time since the 2008-09 global financial crisis.

"When the curve inverts it suggests a recession is looming," Dunand said. "The movement is away from globalization to focus more on security of supply and individual capability to build things. I think the indicators are there to say there is a decent chance to see a recession coming in the next 12 to 24 months."

On the supply side, Dunand said he expected long-term trade implications from Europe's current shift away from Russian energy imports as the region rethinks its energy dependence.

"I think the supply chains [for European oil and gas] are being reconfigured. You can see European countries entering into 10-year supply contracts for LNG and I think this is a shift not to come back to pre-war levels."

Diesel price spike

With EU sanctions set to hit more Russian crude and fuel exports later this year, consumers are already facing record-high pump prices in many parts of the world. But the current spike in refining product prices cannot solely be blamed on Russian sanctions, Dunand said.

"The refined product crisis is much bigger than just Russia. It is much more to do with the fact that we have been shutting down refining capacity over the years and now the world demand is rebounding," he said. "What you need is more refining capacity to turn crude into products."

Europe's heavily Russia-dependent diesel markets will remain undersupplied for the coming months but should expect to see shortages alleviated over the next six months, he said.

"We see that in the second half of the year which should alleviate some of the high product prices," he said.

Looking ahead, Dunand said he expected the current run-up in global oil prices to initially slow the pace of the energy transition by diverting some funds away from renewables projects, but added that the transition should speed up in the medium term, helped by government policy to boost decarbonization.

Oil currently makes up about 35% of Mercuria's trading book, he said, adding that the company will continue to invest in keeping its commodity trading business inherently flexible and built for volatility regardless of how fast the renewable and clean energy markets develop.

"We do not need to have a view on what will happen [in terms of trading volumes] in 2030... we will continue to play along with what the world needs," Dunand said.