Oil is up again, is this the final turn in the oil cycle?

The oil price is up! Will it carry on rising? Or are we approaching the end of the oil cycle?

Article updated: 27 September 2018 1:00pm Author: Michael Baxter

The oil price has more than doubled over the last 30 months. Shares in BP are up by around two thirds over roughly the same time frame. Shares in Royal Dutch Shell are up by a similar amount. Shares in Exxon Mobil are not doing so well, although they are up over this period.

There is a slight time lag involved. The oil price seemed to reach its nadir in the middle of 2015, shares in the three oil companies bottomed out six months later.

What I find a little harder to explain relates to what has happened over the last six months. Brent crude has increased from just over $70 a barrel to just over $80. Yet shares in the three oil companies are pretty flat.

The oil cycle

I have gone off on one about the oil cycle here enough times, so I won’t go into much detail. In summary, whenever the oil price is high, commentators talk about peak oil and how the price will never fall. When it is low, they find another reason to argue why it will never rise again. But the underlying forces that drive oil demand and supply are slow moving. Maybe, because they are so slow, observers are fooled, time and time again.

This time the rationale given to argue that oil prices will never rise above $100 ever again, is fracking. Oil obtained from fracking differs from traditional sources in that it is easier to turn supply up or down. When the oil price dips below $60, fracking activities almost immediately reduce, and when it goes over $60 they pick-up.

With oil at $80, the call has gone out for the US government to authorise more fracking.

The economic backdrop

But another force may be at work this time. As argued here on numerous occasions of late, the global economy may be on the verge of slowing sharply. A recession among developed economies within the next couple of years is possible. Fears over this may be keeping a lid on the share price pertaining to the oil majors.

If the global economy does slow, and the Chinese debt bubble bursts, as some fear, the trade war escalates, and the Trump fiscal stimulus leads to rising inflation and much higher interest rates, then the oil price should fall sharply.

Markets may be allowing for this in the valuation of BP, Royal Dutch Shell, Exxon et al.

The end of the cycle

As argued here before, I reckon the renewable revolution will put an end to the oil cycle, eventually. When I first wrote about this here, I got told off a strip by readers for predicting the rise of electric cars. I don’t think that prediction feels at all controversial now.

The big saviour of oil was, until recently, its use in making plastic.

But the twin evils of climate change and plastic pollution are making a re-think imperative.

I am seriously worried that the dangers of climate change are being underestimated. We simply must win the battle against plastic pollution, either through recycling or finding biodegradable alternatives.

Will the oil cycle ever create an oil price north of $100 again? I have been saying here for some time that it will. I am now having doubts. If the economy does enter a down phase soon, the oil price will fall, and may never fully recover.

As for the oil companies — the urgency with which they move beyond petroleum is becoming great.

These views are those of the author alone and do not necessarily reflect the view of The Share Centre, its officers and employees

Michael Baxter portrait photo
Michael Baxter

Economics Commentator

Michael is an economics, investment and technology writer, known for his entertaining style. He has previously been a full-time investor, founder of a technology company which was floated on the NASDAQ, and a director of a PR company specialising in IT.