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Crude-Oil Pricing Outlook Remains Murky

Predicting the direction of oil prices in the second half is challenging due to geopolitical tension and unclear consumer demand.

Crude-oil prices remain volatile as geopolitical tension, fear of an impending recession and unclear consumer demand affect the outlook for the second half.

Prices for WTI, the U.S. oil benchmark, rose 1.7% to $90.66 on Aug. 8. On Aug. 4 they'd touched their lowest since before Ukraine was invaded by Russia in late February. WTI reached $88 a barrel while the international benchmark, Brent crude, fell to $95 a barrel. 

The drops reflected rising concern about a possible recession and the possibility that demand would decline. 

Why Oil Prices Are Volatile

The outlook for crude oil prices depends on various factors that could change, including OPEC's stance, Russia's war on Ukraine, EU sanctions on Russia, and how much temperatures will decline during winter, Patrick De Haan, head of petroleum analysis for GasBuddy, the Boston provider of retail fuel pricing information, told TheStreet.

Inventory levels of crude oil are currently limited and also affect crude prices.

"In addition, we're perhaps in the early stages of an economic slowdown, which could curb some demand, helping to push prices down. But also with supply tight, any marked improvement in the economy could still cause prices to jump back up," he said. 

"Expect Brent to remain at a premium to WTI for quite some time -- at least through the Russia invasion." 

Demand for oil could drop as growth in the economy contracts and the summer driving season starts to wane, Bernard Weinstein, a retired economics professor at Southern Methodist University in Dallas, told TheStreet.

"The outlook for crude oil prices is difficult to predict, although the spread between WTI and Brent may widen further until we some some resolution of the Russia-Ukraine conflict," he said. 

"In the U.S., a slowdown in the economy coupled with reduced demand after the summer vacation driving season should keep crude oil prices in check. The current economic doldrums in China, previously the world's largest importer of crude oil, will also damp demand for crude oil.

Investor sentiment on the outlook of the economy and concern about a recession also play a role on where oil prices are headed, Rob Thummel, senior portfolio manager at Tortoise in Overland Park, Kan., told TheStreet.

"If we are in a recession, then oil prices are likely to fall into the $80s by the end of the year," he said. "If not, oil prices likely rise to about $110 by the fourth quarter as Russian oil sanctions really begin to reduce the global oil supply."

Global oil demand is rising while global oil supply is not, so the "new normal for U.S. oil prices is between $80 to $100 per barrel for WTI and $85 to $105 a barrel for Brent crude oil," Thummel said.

Production of Oil to Rise

The production of crude oil has been rising and output could continue to increase, but at a slower pace, Weinstein said.

"Rig counts and production have been rising here, especially in the Permian Basin, which is approaching prepandemic output," he said. "In the current and short-term price environment, domestic production should continue to rise, albeit slowly, as U.S. drillers are all practicing capital discipline."

The production of crude oil will likely increase as "prices remain high and supply remains tight," De Haan said. "For now, there's plenty of reason to increase production. But the state of the economy could slow down or derail the recovery in oil production temporarily."

Both Exxon  (XOM)  and Chevron  (CVX)  have highlighted Permian Basin production growth, of 25% and 15% respectively.

"Oil production growth from the U.S. and Canada is the key to balance the global supply/demand for oil as Russian oil production falls," Thummel said. "Oil production growth in 2023 and 2024 likely moderates due to lack of oilfield-services personnel."

Global refinery capacity is expanding again by about 1 million barrels a day through 2023 after falling by more than 3 million barrels a day from 2020 to 2022, he said. 

"Increased global refinery capacity will provide relief for consumers, keeping gasoline prices in the $3s for the next several years," Thummel said. 

Energy Stocks Have Room to Gain

Energy stocks could continue to rise as Exxon and Chevron have outperformed the S&P 500 for the past two years, Thummel said.

"There is still plenty of room to run for these stocks," he said. "The dividend yields of energy stocks are two to three times the S&P 500 dividend yield of 1.5%."

Oil companies have produced generous free cash flow.

"The free cash flow yield of the energy sector is more than two times the free cash flow yield of the S&P 500," Thummel said. "Investors are looking for stocks that generate significant free cash flow and pay high dividends. The energy sector offers both of those."

Investors want stocks that perform well during periods of rising interest rates and high inflation, he said. "The energy sector tends to perform well during these periods as well," Thummel said. 

Why Gasoline Prices Fell

Prices at the pump reached their 54th consecutive day of declines with average gasoline prices down to $4.01 a gallon.

The national average could fall below $4 a gallon for the first time since March, De Haan tweeted.

Consumers have sought a reprieve as inflation drove up the costs of household staples such as energy and food.

Gasoline prices are expected to continue falling, "barring unexpected events like hurricanes, subject to supply and demand," he said. "Gasoline will likely drop off later in fall, as the switch back to winter gasoline occurs. We could stay solidly under $4 a gallon for this fall absent a major disruption or hurricane."

Since gasoline inventories remain low, an unexpected outage like a hurricane affecting the Gulf Coast could cause gasoline prices to rise back into the mid-$4s, Thummel said. 

Retail gasoline prices should drop further this fall, though they are not likely to dip below $3.25 per gallon as long as global supplies of oil remain constrained, Weinstein said. "U.S. oil exports, especially to Europe, can be expected to grow in the foreseeable future as Europe tries to wean itself off Russian oil."