Oil has been the main focus of investment analysts all over the world in 2022. This is because as Wall Street and the cryptocurrency market have had a rocky start to the year, the two major benchmarks have been quite bullish.
Brent oil which is regarded as the global benchmark started the year trading $77.78 a barrel. At the start of the week, the Brent oil futures traded as high as $139.13. The last time the benchmark printed this price was back in 2008, which represents the highest price point the benchmark has ever traded in 14 years.
We also saw the United States’ benchmark, the West Texas Intermediate (WTI) futures, print a 14 year high of $130.50 a barrel, having started the year trading $75.21. So far, both the Brent and the WTI, when compared to their highest, are up 78.88% and 75.51% respectively.
Why are oil prices so high?
At the start of the year, the bullish oil price was attributable to the Organization of Petroleum Exporting Countries and its allies, a cartel that goes by the acronym, OPEC+, sticking to its original plan of adding 400,000 barrels per day. The decision to stick to this plan came at a time when the global economy was just recovering from the COVID-19 pandemic.
The recovery from the pandemic means that there is an increase in economic activity and an uptick in travel by everyone around the world. This, ultimately, means that there is more demand for fuel compared to 2020 when the benchmarks turned negative due to a lack of demand as a result of slowed economic activity caused by the pandemic.
In fact, some countries like Iceland, Norway and Slovenia have decided to lift their COVID-19 entry measures entirely for incoming travelers. This means that all travelers, regardless of their vaccination and recovery status, would be able to enter these countries without having to follow any restrictions whatsoever.
Even with OPEC+’s decision to stick to the output plan, many of its members are still struggling to hit their monthly quota. OPEC+’s compliance with long-installed oil production cuts rose to about 122% in December, indicating that some members continue to struggle to raise their output. Members that fall in this category include Nigeria and Libya.
Asides from the OPEC+’s decision, we also saw supply concerns that came about, after Yemen’s Houthi group attacked the United Arab Emirates, escalating hostilities between the Iran-aligned group and a Saudi Arabian-led coalition. After launching drone and missile strikes which set off explosions in fuel trucks and killed three people, the Houthi movement warned it could target more facilities, while the UAE said it reserved the right to “respond to these terrorist attacks.”
Although UAE oil firm ADNOC said it had activated business continuity plans to ensure uninterrupted supply of products to its local and international customers after an incident at its Mussafah fuel depot, it still weighed in on price as investors fear a supply disruption from the UAE.
The United States’ and other nations tried to slow the rising price of oil at the start of the year by appealing to the cartel and even launching a coordinated reserve release, however, these actions ultimately bore no fruit as the world was faced with the unexpected.
Focus: The Russia-Ukraine war
The major factor to why we are seeing multiyear highs in the oil price is the Russian Ukraine war. In late February, Russian President, Vladimir Putin, announced a special military operation in Ukraine, which marked the beginning of the war between the two nations. Being that Russia is the second-largest exporter of crude and refined oil, accounting for 5 million bpd of crude and 2.8 million bpd of refined products and accounts for 7% of the world’s global supply, the war has caused a rally in the price of oil as there are fears that Western nations would sanction Russia, in solidarity with Ukraine.
Even without sanctions, many private organizations have taken it upon themselves to stop dealing with Russia, in a self-sanctioning spree. Many organizations are refusing to touch Russian oil also in solidarity with Ukraine and are currently looking for alternative supplies. Daniel Yergin, author and vice chairman of S&P Global stated ahead of the CERAWeek conference in Houston, “The idea was not to sanction oil and gas because of their essential nature, but oil is getting sanctioned by private actors not wanting to pick it up or ports not wanting to receive it and the longer this goes on the more supply chains are going to buckle.”
Although there is the possibility of an Iranian nuclear deal that would allow Iran to legitimately return to exporting its oil, which has the potential to slow down the price increase we are seeing in the oil market, however, barrels from the Islamic Republic cannot replace the loss of Russian oil, according to analysts.
RBC Capital analyst Helima Croft wrote in a note cited by Reuters on Thursday, “While some remain transfixed with the idea that an Iran agreement will provide much-needed relief (from rising oil prices), we again caution that the deal is still not done and the sums entailed would simply be too small to backfill a major Russian disruption.”
The effects of the war on oil price
Bank of America Research, headed by the bank’s head of global economics research, Ethan Harris, detailed a scenario in which U.S. GDP growth could be cut by 1% over the next year if oil prices remain above $100 per barrel amid Russia’s invasion of Ukraine. The bank’s note said an even higher cost might even be in the cards if the U.S. or NATO move to curb Russian energy exports altogether, forecasting a shocking $200 barrel of oil.
According to ICE Futures Europe data compiled by Bloomberg, more than 1,200 contracts were traded on Monday for the option to buy Brent Crude future for May at $200 per barrel. As a result of active options trading in recent days, the price to buy such options has skyrocketed. For example, the $200 oil options on the May Brent futures, expiring on March 28, three days before the contract expires, saw the price for buying them surge by 152% to $2.39 a barrel. The price of the $150 a barrel June call option doubled, and the $180 call options surged by 110%, per the exchange data cited by Bloomberg.
Let’s take it that the Bank of America’s prediction was a little too extreme. JPMorgan’s analysts are predicting that the Brent crude could end the year at $185 a barrel if the Russian supply continues to be disrupted. JP Morgan strategist Natasha Kaneva stated in a note yesterday that just under 70% of Russian oil can’t find a buyer. She said that if the self-sanction continued, the Brent oil price could end the year as high as $185 a barrel.
The analysts wrote, “As sanctions have widened and the shift to energy security takes on an urgent priority, there will likely be ramifications for Russian oil sales into Europe and the US, potentially impacting up to 4.3 million barrels per day.”
She further wrote, “While the US and its allies have so far stopped short of imposing penalties directly on Russian oil and gas, on Tuesday it became increasingly clear that Russian oil is being ostracized. Crucially, were disruption to Russian volumes to last throughout the year, Brent oil price could exit the year at $185/bbl.”
What this means for Nigeria
Nigeria, a nation highly dependent on its crude oil export, may look to benefit from the high oil prices seen in the market, however, we should remember that the nation still imports the majority of its refined oil products. The nation is currently feeling the effects of fuel scarcity as four refined oil importers brought in adulterated fuel, high in methanol content.
Although the price of Premium Motor Spirit (PMS) has been relatively stable, even amidst the rising oil prices, due to government subsidy payments, the price for diesel, for example, has been rallying. Just last week, the price of diesel hit N545, the highest ever, after a survey was conducted by Nairametrics. This is an increase of over 142% from the N225 which the commodity was for sold in January 2021.
The survey also revealed that most filling stations now sell diesel between N400 and N420 across Lagos up from an average of N350 per litre in late January (55.71% increase when compared to today’s price). Diesel prices closed the year (2021) at under N300 per litre.
Speaking on the economic effects of a $200 per barrel oil, Olumide Adesina, a financial analyst at Quantum Economics, had this to say, “If global oil prices continued to rise at the same time as the naira fell in the IEFX window, the resultant increase in domestic gasoline prices would almost certainly occur.
“Moreover, we do not have a working refinery, so we must purchase petroleum products for domestic use. That reduces revenue potential.
“Yet, one thing is clear: The Nigerian economy cannot afford subventions in the energy sector; it is just a matter of time and how much more Nigerians will pay per litre of gasoline in the future.”
Opeoluwa Dapo-Thomas, an International financial analyst, with a speciality in oil and gas had this to say, “It means less revenue and more allocation to subsidy payments – simply put. The Nigerian economy has not benefitted from higher oil prices in recent months. There are months where the NNPC paid no revenue into the Federation Account.
“The fact that Nigeria does not also produce so much oil also restricts the revenue potential from higher oil prices. You heard the Minister of Petroleum, the other day on Bloomberg TV, who said ‘we are not currently happy with higher oil prices’ – that is a frank reflection of our oil economy now. The chicken has come home to roost.
“Prices at this level would have strengthened our fiscal positions, FX reserves, Excess Crude accounts, and Sovereign Wealth Fund, but what we will see is north of 300-400 billion naira payments for “subsidy”. What’s the point of having a $62 per barrel benchmark for the 2022 budget, when you are not inherently happy with $200 per barrel? These are the issues.”
Bottomline
It is evident that a $200 per barrel oil is more of an inconvenience than a blessing to the Nigerian economy. Higher pump prices, higher government expenditure, inflation and so on, are issues that come with a $200 per barrel oil. Even developed nations like the U.S. will not benefit from higher oil prices as Bank of America’s Ethan Harris explained that the U.S. GDP growth could be cut by as much as 2% if the price of oil hits $200 per barrel.
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