What the end of the oil era means for you

MW-FN369_wr_pea_20170528114645_ZH.jpg

Source: Market Watch Personal Finance

The world’s largest oil companies are girding for the biggest shift in energy consumption since the Industrial Revolution: After decades of growth, global demand for oil is poised to peak and fall in the coming years.

New technologies that improve fuel efficiency are starting to push down the amount of gasoline and diesel that’s needed for transportation, and a consensus is growing that fuel demand for passenger cars could fall as carbon rules go into effect, electric vehicles gain traction and the internal combustion engine gets re-engineered to be dramatically more efficient. Western countries’ growth used to move in lockstep with their energy consumption, but that phenomenon is starting to decouple in advanced economies.

While most big oil companies foresee a day when the world will need less crude, timing when that peak in oil demand will materialize is one of the hottest flashpoints for controversy within the industry. It’s tough to predict because changes to oil demand will hinge on future disruptive technologies, such as batteries in electric cars that will allow drivers to travel for hundreds of miles on a single charge.

Hitting such a plateau would mark the first time that demand has declined even when economies are growing since Col. Edwin Drake jury-rigged a pipe to drill for oil in Pennsylvania in the late 1850s. Yet, for many companies and investors, the question isn’t whether this immense turning point will happen—it’s when.

Getting that timing right will separate the winners from the losers, and it has become a major preoccupation for energy economists and a flashpoint for controversy within the industry.

Forecasts for peak oil demand diverge by decades. The Paris-based International Energy Agency argues that demand will grow, albeit slowly, past 2040. And the two biggest U.S. oil companies, Exxon Mobil Corp.

XOM, +0.78%

  and Chevron Corp.,

CVX, +0.08%

 say peak demand isn’t in sight.

But some big European producers predict that a peak could emerge as soon as 2025 or 2030, and they are overhauling their long-term investment plans to diversify away from crude oil. Royal Dutch ShellPLC

RDSA, +0.12%

  and Norway’s Statoil SA

STL, -0.54%

  are placing bigger bets on natural gas and renewables, including wind and solar.

“Nobody knows” when demand will peak, says Spencer Dale, group chief economist for BP PLC

BP., +0.28%

  which issues a widely watched annual outlook. The company’s base case calls for a peak in the mid-2040s—with the caveat that it could come sooner or later. “There are huge bands of uncertainty around that,” Dale says.

The uncertainty stems from a host of variables, including the pace of technological changes that will make renewables and electric vehicles more cost-competitive; the toughness of new regulations aimed at curbing greenhouse-gas emissions and climate change; and the rate of economic growth in developing countries, which is currently driving the increase in oil demand.

Also see: The more family members the merrier, many luxury buyers say

Those factors are making it much harder to predict long-term demand than in the past, according to many energy-industry executives and economists.

Calling it accurately is high stakes for an industry sitting on trillions of dollars of crude-oil reserves. Whenever it finally does happen, the tipping point from global oil-demand growth to decline will reverberate through the energy world, knocking down oil prices and some companies’ shareholders.

The idea that electric vehicles and alternative forms of energy will increasingly displace crude oil is one that big-name investors are starting to ask about.

“We have lots of clients in the financial sector asking about peak demand,” says Linda Giesecke, research director at Wood Mackenzie, an energy consulting firm. “It’s because you have this threat of disruptive technology” such as electric vehicles, she says. “If it is disruptive, it will come fast. That’s why it’s so hard to forecast.”

Case in point: Shareholders of Occidental Petroleum Corp.

OXY, -1.05%

  voted in May to ask the company to assess long-term impacts of climate change on its business. It was the first time such a proposal passed at a major U.S. oil-and-gas company. BlackRock Inc.,

BLK, -0.12%

the world’s largest asset manager, supported the resolution, marking the first time it went against management wishes to support such a climate resolution

Historically, producing crude oil has been a growth industry, if a cyclical one, with energy demand moving in step with economic output. Since 1965, global oil consumption has increased from 30 million barrels a day to nearly 95 million.

During those decades, companies built strategic plans around the assumption that they would always need to find more oil, and analysts obsessed over whether there would be enough crude in the ground to fuel growth. When oil hit its high over $147 a barrel in the summer of 2008, some of the run-up was fueled by concern about hitting maximum output, or so-called peak oil, the point at which normal declines in output from producing oil fields outpace the industry’s ability to develop new supply.

Now, peak-oil theory has been turned on its head, and forecasting peak demand has taken center stage.

Some companies, particularly European energy outfits, see the tipping point coming soon enough that they are talking about it publicly, and overhauling their long-term investment plans to accommodate a greater emphasis on natural gas and renewables. Shell and Statoil say peak oil demand could come as soon as the mid-2020s, though around 2030 is more likely; the chief executive officer of France’s Total SA says he wouldn’t be surprised if it happens by 2040.

But the American companies are betting on a more bullish future. Exxon Mobil, the largest U.S. oil company, sees no end to the world’s need for more crude. In its forecast through 2040, Exxon predicts that oil will remain the dominant fuel source, as demand for both plastics and transportation grows, mostly because of increasing incomes across Asia. It does expect to see huge strides made in fuel efficiency, with the vehicle fleet improving to 50 miles a gallon from the current 30 MPG, but thinks the growth in other areas will have a bigger influence on oil use.

Also read: Here’s some bad news for oil in 2018

Chevron’s outlook is similar: It expects roughly half the world’s energy needs will be met by oil and natural gas combined by 2040. Saudi Arabia’s national oil company, Saudi Arabian Oil Co., says demand is unlikely to peak before 2050.

“The peak-demand discussion is only at most a couple of years old,” says energy scholar Daniel Yergin, vice chairman of energy research at IHS Markit Ltd. But as peak demand has started to gain acceptance, “there has been a backlash against the idea,” especially by American companies.

For the industry and many analysts, the concept of peak demand turns all their long-held assumptions about the energy world on their ear, Yergin says. Until recently, many were betting on strong demand growth from emerging markets as more people joined the middle class, he says. “There was just this assumption that all those people were going to keep buying cars and driving more miles.”

Peak oil demand was one of the most hotly debated topics at the recent CERAWeek energy conference sponsored by IHS Markit in Houston. The CEOs of Shell and Statoil shared their predictions of a peak within 15 years. Weeks later, at an event at Columbia University, the president and chief executive of Saudi Aramco, Amin Nasser, disputed that view. “Our belief is peak demand isn’t in sight,” he told the audience.

To predict how demand is likely to grow — or, eventually, shrink — companies are paying close attention to what most view as the momentum around the world behind regulations to limit greenhouse-gas emissions and combat rising temperatures.

Those measures include the adoption of higher prices on carbon in more-developed and developing countries. Experts see changes coming even in the U.S., where the Trump administration has already rolled back many Obama-era climate initiatives and hasn’t come out in support of the global climate-change accord struck in Paris in 2015. Efficiency gains and technological advances are seen as likely to further limit growth in cars’ demand for gasoline.

Inside energy companies, strategists are building scenarios to consider questions that they can’t yet answer: Will cars drive themselves? Will governments tax carbon emissions at high enough rates to discourage fossil-fuel use? What kind of transit will a middle-class resident of Mumbai favor in the year 2035? And what kind of battery-technology breakthroughs could affect that choice between now and then?

Outside of efficiency gains, which even peak-demand naysayers acknowledge are coming, the biggest “X” factor is how widespread electric-vehicle adoption will be. Transport fuel accounts for about 50% of the demand for crude oil, with cars accounting for half of that; that means 25% of total oil demand hinges on autos.

For decades, Americans’ love of the open road, which made the country the largest oil user in the world, helped to drive global oil demand. But U.S. cars have gotten more efficient, due in part to government policies that mandate better mileage for every gallon of gasoline and diesel burned. That has slowed demand growth, and played into the oil-price rout of the past couple of years.

Electric vehicles, self-driving cars and ride-sharing stand to further erode gasoline demand. The question is, how fast? That depends on batteries, many say. Battery technology is still too rudimentary, and too expensive, for electric vehicles to take hold en masse. If engineers can’t crack the lighter, cheaper, denser battery challenge, then the peak-demand scenario slows.

But if a breakthrough in battery technology puts electric vehicles suddenly on a par with the cost of internal-combustion vehicles, or if carbon taxes in more countries are high enough to weigh on drivers, adoption rates could rise more quickly. That could shave millions more barrels a day off global oil demand.

Varying predictions for electric-vehicle adoption drive a lot of the differences in forecasts.

The IEA’s main scenario shows oil demand from cars in 2040 remaining close to the 24 million barrels a day that is now consumed. That estimate, says executive director Fatih Birol, is a big reason for the agency’s prediction that crude-oil demand is likely to keep growing at least past 2040.

Birol says that even if EVs gain more traction—and he’s doubtful they will until batteries can last for several hundred miles—there’s still a lot of transportation with no electric alternative. Half of oil demand for transportation is driven not by passenger cars, but by jets and heavy-duty trucks.

“Asian trucks alone, today, are responsible for one-third of global demand growth,” Birol says. “There’s barely any substitute. So even though the automotive sector may go through a transformation, we will still see oil demand grow.”

Birol also says that as oil-demand growth from transportation wanes, the demand for oil in the petrochemical sector—to be used as a feedstock to generate more plastic items, from diapers to lightweight, fuel-efficient car parts—is still expected to increase.

BP, meanwhile, expects the number of electric cars to skyrocket to 100 million by 2035 from one million today—but thinks even that rise will likely shave only one million to 1.5 million barrels a day off oil demand.

“EVs aren’t a game changer,” says Dale, the BP group chief economist. (The company’s CEO, Bob Dudley, also says the company is gearing its investments toward a lower-carbon future, in part by shifting toward natural gas.)

Wood Mackenzie expects roughly 2% of global oil demand—or two million barrels a day—to be lost to electric vehicles by 2035. Wood Mackenzie doesn’t expect oil demand to peak by 2035, but the firm does expect the world’s fuel mix to significantly change by 2050, with greater reliance on natural gas and renewables.

But others see electric vehicles making significant inroads into oil demand. Statoil Chief Economist Eirik Wærness says expectations of higher electric-vehicle adoption are the main reason that his company’s peak-demand forecast of 2030 is earlier than BP’s. Statoil has shifted its long-term investment portfolio to reflect its forecast of demand peaking around 2030. The company plans to increase investment in renewables to between 15% and 20% of total investments, CEO Eldar Sætre said recently.

Another crucial variable to consider is the developing world. Any leveling of driver demand for gasoline in rich countries could be offset by growing demand among new middle-class drivers in developing nations.

Part of BP’s forecast of a mid-2040s peak rides on continued growth in developing nations. As China, India and other nations get wealthier over the next two decades, another two billion people—about a quarter of the world’s population—will move from low to middle incomes.

“When that happens, your demand for oil increases,” says BP’s Dale. “You stop riding on overcrowded buses and trains, and you buy your first motorbike. And then you buy a car.”

To come up with Statoil’s 2030 peak-demand forecast, Wærness, the company’s chief economist, says he thinks a lot about what life will be like 20 years from now for much of the world’s population—especially in India, which will emerge to lead global energy-demand growth in the 2020s, taking the mantle from China.

“I’m not talking about people in New York and San Francisco but kids of the current poor people in Calcutta, Chennai and Mumbai,” Wærness says. “They will become global middle-class consumers by 2040.”

Consider this jet-fuel math: Seven times as many Chinese are flying now as in 2000, and six times as many Indians, he says. “When they get rich, they’ll want to travel to exciting places.”

Why, then, does Statoil expect an early peak? The company sees increased demand balanced out by efforts in some developing countries to reduce greenhouse-gas emissions and limit climate change. In China, for instance, the government is subsidizing electric vehicles, and in cities, only EVs are allowed on the road on days when air quality is bad.

Such policies around the world stand to have a major impact on the fuel mix. Globally, carbon intensity and energy intensity have already peaked and will trend down through 2035, according to a Wood Mackenzie analysis. But many analysts say the Paris Agreement to limit global warming is just the beginning. And some companies are starting to plan accordingly.

“To us, it’s real,” says Statoil’s Sætre. “The future has to be low carbon.”

Lynn Cook is deputy chief of The Wall Street Journal’s energy bureau, and Elena Cherney is global editor of the bureau. They can be reached at lynn.cook@wsj.com and elena.cherney@wsj.com.

The article “Get Ready for Peak Oil Demand” first appeared in The Wall Street Journal.

Source: Market Watch Personal Finance