The Surprising Reason Oil Prices Could Fall

Perhaps no other discussion on energy-related topics has been as polarizing as the debate over the general direction of oil prices over the next several years.

On the side of the bears, Citigroup (NYSE: C  ) argued in a recent research paper that global oil demand is "approaching a tipping point." The combination of falling demand in developed countries and two other factors -- the transition toward natural gas as a fuel source and improving fuel efficiency for new vehicles -- led the bank to conclude that, by the close of the decade, oil prices are "likely to hover within a range of $80-90/bbl."

On the other hand, the bulls argue that prices will remain buoyed by the high marginal costs of production for unconventional oil -- which includes U.S. shale and Canada's oil sands and continues to gain a larger share of the total market -- and that rising demand from emerging economies will push prices generally higher over the next several years. According to estimates by the Organization for Economic Cooperation and Development, oil prices could close out the decade in a range of $150 to $270 per barrel, bolstered by emerging-market growth.  

Though the debate continues to rage, the oil bears just got a new supporter on their side. And one with a great deal of credibility and clout. Let's look at why he thinks oil prices could fall over the next few years.

Eni's chief executive forecasts lower oil prices
According to Paolo Scaroni, chief executive of Eni, one of the largest energy companies in Europe, oil prices are likely to fall over the next few years. Barring an unexpected surge in global economic growth, the combination of stagnant oil demand and surging new supplies means that oil prices are "more likely to go down than up" over the next two to five years, he said.

Scaroni's forecast is predicated upon his view that the huge disparity that currently exists between oil and U.S. natural gas prices (on an energy equivalent basis) is an anomaly that will be corrected over time. Currently, the benchmark U.S. gas price at Henry Hub is a little over $4 per MMBtu, while liquefied natural gas imported to Asia fetches around $15 per MMBtu. Meanwhile, oil remains about six times as expensive as U.S. natural gas on a BTU-equivalent basis.

Over time, Scaroni argues, market forces will act to narrow both gaps. "These two anomalies, once corrected, move us toward a world in which gas prices are higher and oil prices are lower," he was quoted as saying in the Financial Times. Indeed, the price difference between oil and natural gas has already led to a surge of demand from the U.S. transport sector, especially among long-haul trucking fleets.

Growing demand for natural gas
For instance, Waste Management (NYSE: WM  ) reckons that, over the next five years, four-fifths of the new trucks it buys will run on natural gas and that, by 2017, its fleet will burn more gas than diesel. Similarly, truck maker Navistar (NYSE: NAV  ) estimates that, within a couple of years, a third of the new trucks it sells will burn natural gas instead of diesel.  

Though adoption rates for natural gas vehicles outside long-haul trucking have been disappointingly low, a host of companies are working hard to change that. For instance, engine manufacturer Westport Innovations (NASDAQ: WPRT  ) is collaborating with auto manufacturers to develop more advanced dual-fuel technologies for passenger vehicles, such as Ford's F-450 and F-550 Super Duty Chassis Cab trucks.  

Meanwhile, Clean Energy Fuels (NASDAQ: CLNE  ) is plugging away at developing the other necessary component to promote natural gas vehicle usage -- refueling infrastructure. The Seal Beach, Calif.-based company already fuels tens of thousands of vehicles each day at various strategic locations across North America and is planning on building an additional 70 to 80 LNG fueling stations this year.  

Final thoughts
If the shift toward natural gas in the U.S. transport sector picks up speed, it could have significantly implications for oil prices, according to Scaroni. Even if natural gas prices remain within a range of $5 to $6 per MMBtu, while oil remains at around $90 per barrel, it would lead to a large shift away from oil and toward gas within the U.S. transport industry. This, Scaroni argues, would exert additional downward pressure on the price of oil.

What do you think? Does Scaroni's view hold water? Or is he overestimating the pace at which the transport sector will shift toward using natural gas?

If the transition toward natural gas does gather pace, one company stands out as a clear beneficiary -- Clean Energy Fuels. The company's value proposition is quite simple: It's a first mover that's poised to make a big impact on an essential industry poised for rapid future growth. Read all about Clean Energy Fuels in our brand-new report. Just click here to get started.


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Comments from our Foolish Readers

Help us keep this a respectfully Foolish area! This is a place for our readers to discuss, debate, and learn more about the Foolish investing topic you read about above. Help us keep it clean and safe. If you believe a comment is abusive or otherwise violates our Fool's Rules, please report it via the Report this Comment Report this Comment icon found on every comment.

  • Report this Comment On May 25, 2013, at 2:42 PM, megalo99 wrote:

    riiiight. i believe him!

    traders, speculation, and collusion will just suddenly stop based on their own morality kicking in, and it's going to be kumbaya til the end of time.

    that's what I love about the elite - their sense of decency and compassion.

  • Report this Comment On May 25, 2013, at 3:35 PM, coltsrnum109 wrote:

    yea oil prices suppose to drop but yet gas prices at the pumps go up..do you see any logic or reason why doesnt make sense...im poor and gas is killing me and i cant barely drive anymore...

  • Report this Comment On May 25, 2013, at 5:08 PM, fooledoux wrote:

    When I was poor, I couldn't drive at all. No car. Not slamming you but the level of hardship that's considered poverty is considerably lower in the US than the rest of the world. Actually I was never poor by world standards. Happy to be here I guess.

  • Report this Comment On May 26, 2013, at 7:52 AM, JonMichaels99 wrote:

    So converting to NG reduces the demand on oil and its price falls. Surely NG prices rise?

    Then the people who didn't convert have a commercial advantage and use more oil, so the price goes back up?

    Between economics and the points made by others about the unfathomable relationship between barrel and pump (not to mention city gate and retail prices for NG)...will we actually 'see and feel' reduced prices for long enough for it to make a difference?

  • Report this Comment On May 27, 2013, at 10:46 AM, Ikarruss wrote:

    I agree with Scaroni, the price of direct substitutes must tend to be the same. If NG is so much cheaper it makes sense to switch. Long haul drivers speed a lot more on fuel (relative to the engine cost) than the rest of us. On the average we end up paying less per mile, even the ones that don't switch.

    If we use electric cars we are also switching to NG as the producers switch.

    We can always sell the gasoline to those places that will take longer to switch, I herd that refined products are rising in price.

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