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Annual review: Oil price recovery in 2021 buys BP and Shell time on renewables transition

Annual review 2021: Oil and gas - rigs out at sea

If 2020 was the year the oil and gas industry almost imploded, then 2021 was the year of a Lazarus-style comeback. That said, the issues that faced the oil majors pre-pandemic, including questions over how they plan to pivot into clean energy, haven’t gone away.

The collapse in prices in 2020 was driven by the pandemic, as the sudden drop in demand for oil led to massive oversupply. But the situation wasn’t helped by the price war between Saudi Arabia and Russia that began in March. This exacerbated the sell-off that saw oil prices slip into negative territory in April last year, as holders of US oil futures were willing to pay to offload contracts for oil which they lacked the capacity to store. To curb falling prices, OPEC and Russia slashed production.

Now, with oil prices back above $80 a barrel, OPEC and Russia appear somewhat reluctant to restore output to previous levels. OPEC and its oil-producing allies have agreed to continue increasing oil production by 400,000 barrels a day each month, with output now back at almost 30m barrels a day, but low inventory levels are fuelling concerns that they are ramping up production too slowly.

US crude oil production also slowed last year, slipping from 12.8m barrels a day to a low of 9.7m in May 2020. Output is now back at around 11.1m barrels a day, according to the US’ Energy Information Administration.  

Last year’s collapse in demand and prices dented the balance sheets of not only the oil-producing countries, but also the major oil companies, who lost a combined $76bn between them. Around $70bn of that was as a result of write-downs and impairments on unviable or stranded assets. However, the long-term challenge facing the likes of Exxon Mobil, BP and Royal Dutch Shell continues to be the question of how they transition towards renewable energy without hammering their margins.

Can oil majors give up black gold to go green?

Since those dark days in 2020 when the share prices of the major oil companies lost more than 40% of their market cap, we’ve seen a decent recovery. 

Brent crude price vs BP, Shell, and Exxon share prices (2021)

Source: CMC Markets

As the above chart shows, the share prices of the oil majors have picked up this year, though BP and Royal Dutch Shell have lagged behind Exxon Mobil despite oil and natural gas prices hitting record highs in Europe, and seven-year highs in the US. The improved performance has seen both BP and Royal Dutch Shell restart their dividends and pursue share buybacks.

Indeed, the oil and gas sector has been one of the FTSE’s outperformers this year, as can be seen from the chart below.

FTSE 350 Oil and Gas Index (2021)

Source: Bloomberg

BP and Shell’s stock market recovery this year has been driven by the rebound in oil and gas prices, which has helped boost the balance sheets of both businesses. 

Now, as we look back on the last 12 months, one has to assess whether BP and Shell are doing enough to transition to renewables without hammering the margins that allow them to return cash to their shareholders. Both companies are coming under pressure from a boisterous green lobby and ESG investors (those who prioritise environmental, social, and governance factors), with both groups urging the oil majors to be more environmentally friendly and become carbon neutral by 2030. 

BP increased dividends in boost for shareholders

Looking at BP’s performance this year, there has been progress on the balance sheet. Debt is now down to $31.97bn, based on the company’s recent Q3 numbers, versus $32.7bn at the end of Q2. The figure is also below the debt target of $35bn set at the start of this year. However, the business still has some way to go before it becomes less reliant on crude oil and natural gas, with capital expenditure still low, relative to its peers, at $9.2bn year-to-date.

BP also increased its dividend to $5.46 a share in Q2, and announced a $1.4bn share buyback using surplus cash flow from the first half of the year. The company added that, with oil prices at $60 at the time, there was scope both to deliver buybacks of $1bn a quarter and to increase the dividend by 4% going forward.

While this is all good news for shareholders in the short term, and is set to be supported by the current high level of oil and natural gas prices, the jury remains out on how long fossil fuels can continue to carry the business. Management needs a plan that goes beyond returning cash to shareholders, especially with the green lobby breathing down its neck to cut emissions faster.  

BP can talk about “performing while transforming” all it likes, but it needs to prove to shareholders and the markets that it can transition to renewables without harming its margins. The jury is likely to remain out on that for a while. One thing in BP’s favour, though, is that the lack of incentive to invest in new fossil fuel sources is likely to sustain upward pressure on prices. 

Royal Dutch Shell resisted calls to be split in two

Shell is in a similar position to BP, with the rebound in oil and gas prices having buoyed its fiscal position. However, a disappointing Q3 update led to calls from activist shareholder Dan Loeb’s Third Point Group for Shell to break up its fossil fuel and renewable energy arms.

This appears to have resulted from shareholder frustration with Shell’s difficult balancing act. The argument is that Shell is trying to serve two masters – fossil fuels and clean energy. While Shell will struggle if it strives to be all things to all people, these are not necessarily sufficient grounds for splitting the company into a legacy oil and gas company, and a separate renewables and marketing business. The problem is that the legacy business needs to fund the transition to renewables, so there inevitably needs to be an element of crossover between the two.

As for buybacks and dividends, Shell appears to be going down a similar route to BP. In September Shell sold its Permian Basin business to ConocoPhillips for $9.5bn, promising to return $7bn to shareholders and to pay down its debt, which fell to $57.5bn. While shareholders will no doubt be pleased to receive another cash windfall, it also seems that Shell’s bosses are repeating past mistakes. Returning funds to shareholders is all well and good, but the focus on shareholder returns, allied with the low level of investment in the transition to renewables, points to a lack of seriousness when it comes to transitioning the business towards renewables. 

Shell’s transition to clean energy cannot be achieved at the flick of switch. It requires a plan and huge sums of money – specifically, the revenue it generates from liquefied natural gas and oil. Like it or not, profits from fossil fuels will help Shell transition into the lower-margin renewable energy business. 

Where next for BP and Shell? 

While both BP and Shell say they are committed to cutting emissions, they are still running high levels of debt, while at the same time gifting shareholders cash that could be spent on the pivot towards renewable energy. This brings the risk of displeasing ESG investors who are being encouraged to divest from oil and gas, though this shouldn’t be a problem in the short term. 

Oil and gas demand is likely to remain high for a while yet. Although the oil majors will continue to be vilified – hypocritically by some, such as opponents who travel to environmental summits by plane and by car – fossil fuels remain key parts of the global economy. Oil and petroleum by-products will continue to be used in all manner of everyday products, from clothing to tyres and car parts. 

While BP and Shell will almost certainly remain in the crosshairs of the green lobby, dividends are unlikely to be cut, since oil and gas prices seem set to stay roughly where they are, given the lack of investment in new oil and gas sources. 

In the short term, both BP and Shell need to get their debt levels down, while showing that they are part of the climate solution – something they appear to have struggled with thus far. BP is starting to spend more on renewables, albeit from a low base, but will need to invest a lot more if it is to reach its highly ambitious target of 50GW of renewable energy capacity by 2030. At the end of 2020, BP had 2.5GW of renewables capacity. By comparison, Danish company Orsted, one of the world’s biggest providers of renewable energy, has 12GW of installed capacity, and expects to increase this to 50GW by 2030, via a combination of wind, solar and renewable hydrogen, at a cost of DKK 350bn, or about $54bn. On that basis, BP and Shell have a long way to go if their pivot into clean energy is to be a success.


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