What to Expect From Oil Prices in 2024

After an impressive performance in 2021 and 2022, there has been a significant decrease in the prices of both Brent crude oil, the North Sea benchmark, and WTI crude, the American standard. Both are experiencing declines of more than 10% since the beginning of the year.

A Reduction in Oil Production in 2024?

Concerns regarding the anticipated demand for oil in the upcoming year and the current level of oil production by key market participants (especially as many investors are surprised by the growth at which US shale oil operations continue) are contributing to the downward trajectory of oil prices.

However, noteworthy efforts are being made by significant players to curtail oil production. The Organization of the Petroleum Exporting Countries (OPEC) and its allies recently opted for voluntary production cuts slated for the first quarter of 2024, which is anticipated to total around 2.2 million barrels per day (bpd) for the first quarter of 2024.

As reported by CNBC, for the initial three months of 2024, Saudi Arabia is prolonging its voluntary production cut of 1 million barrels per day, initiated last July, while Russia has committed to reducing its crude supply by 300,000 barrels per day and petroleum products by 200,000 barrels per day during the same period.

The real question is whether or not the other members will follow and respect their price cuts engagements, as this will have a real impact on oil supply and prices.

Should oil production decline substantially, leading to an actual reduction in the physical oil supply while demand remains constant or experiences an uptick due to a stronger-than-expected global economy, an imbalance in the market could emerge with an undersupplied oil market, potentially resulting in a strong upswing in oil prices.

Goldman Sachs, for instance, sees higher oil prices between $80 and $100 a barrel if the OPEC+ group adheres to the cuts.

Elevated Oil Prices and Their Ripple Effects

Higher Oil Prices, Inflation and Monetary Policies

The ramifications of a sustained uptick in oil prices extend beyond the energy sector. Such a scenario has direct implications on inflation and, consequently, monetary policy, which, in turn, can influence economic growth.

As the price of oil rises, the operational costs for numerous businesses witness an uptrend, which means that companies have to face heightened costs associated with the manufacturing and distribution of their goods and services.

To preserve profit margins, they may opt to pass on these additional costs to consumers, triggering an escalation in consumer prices. If inflation persists, it could pose challenges to economic growth. Central banks may respond by adjusting their monetary policies—keeping interest rates high for an extended duration or further increasing rates—to mitigate inflation.

Higher interest rates, beyond impacting inflation, typically alter the behaviour of both consumers and investors, which can shape the valuation of diverse assets within the financial markets.

Higher Oil Prices, Inflation, Restrictive Monetary Policies and the Financial Markets

In the face of prolonged inflationary conditions, investors are likely to demonstrate a growing inclination towards bonds with higher coupons, particularly if prevailing interest rates remain at their current elevated levels. This strategic move gains further appeal if the market expects interest rate hikes, as they potentially amplify the overall returns on investment of newly issued bonds.

In such a scenario, bonds with higher coupons not only offer a more substantial income stream but also stand to benefit from potential capital appreciation as the market adjusts to the new interest rate environment. Investors, therefore, position themselves strategically to capture both the immediate income advantage and the potential for capital gains as the yield environment evolves.

Furthermore, bonds that fall within the classification of investment grade present an additional layer of appeal for risk-averse investors, as they are deemed to have a lower level of credit risk compared to their counterparts with lower credit ratings, like junk bonds. The investment-grade status signifies a higher degree of creditworthiness of the issuer, which translates into a reduced likelihood of default.

In uncertain economic environments or periods of heightened market volatility, investors often prioritize the preservation of capital. As such, the relatively lower risk associated with investment-grade bonds makes them an attractive choice, providing a balance between income generation and capital preservation.

Conversely, the equity market could face headwinds from heightened inflation and a monetary policy that remains restrictive if oil prices sharply increase.

It’s especially true given the prevailing investors’ expectations of upcoming rate cuts in developed economies for the upcoming year, especially from the Federal Reserve (Fed) in the United States, the European Central Bank (ECB), and the Bank of England (BoE) in the United Kingdom.

Heightened inflation tends to erode the real value of future corporate earnings and can introduce uncertainty into the economic landscape. In such an environment, businesses may grapple with increased operational costs, affecting profit margins and potentially dampening investor confidence.

Moreover, a persistently restrictive monetary policy, marked by higher interest rates or a reluctance to implement the expected accommodative measures, can pose challenges for the equity market, as higher borrowing costs can impact the spending behaviour of businesses and consumers alike, potentially slowing economic growth and, by extension, corporate earnings.

The prevailing market sentiment, influenced by expectations of rate cuts in 2024, adds another layer of complexity.

If central banks deviate from these anticipated moves and adopt a more hawkish stance by maintaining or even increasing interest rates, it could catch investors off guard and lead to market volatility. In such circumstances, equities may experience downward pressure as investors reassess their strategies and asset allocations in response to the evolving monetary policy landscape.

Amidst the complex dynamics, the surge in oil price, however, emerges as a boon for oil producers and companies operating within the oil sector, because the rise in oil prices translates into increased revenues from oil sales, leading to improved financial results.

This positive financial performance not only strengthened these companies’ existing operations, but also provides them with the financial leverage to invest in strategic initiatives such as finding new oil reserves, adopting advancements in cutting-edge technologies, and bolstering their overall market presence.

Final Word

As explained by Reuters, “the short duration [of the OPEC supply cuts], plus the time lag of one to two months that it takes for producers to implement cuts, mean investors may see little evidence of reduced supply in physical markets until near the end of January”, which means that the oil market should expect some volatility, as market participants await for the real output cuts figures and what the OPEC+ will do next.

As the global economic landscape evolves, staying attuned to these nuanced dynamics becomes imperative for investors and market participants alike to make more informed decisions.

They can either exploit market volatility with leveraged financial products over the short-term like CFDs (Contracts For Difference) or invest in the longer run on oil companies and ETFs (Exchange-Traded Funds) dedicated to the oil sector. Some brokers like ActivTrades offer both types of accounts – a CFD trading account for active traders and a non-leveraged investment account for investors.

Disclaimer

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