Why a Return of $100 Oil Seems Likely in the Coming Years

Oil prices have been surprisingly weak this year. WTI, the primary U.S. oil price benchmark, recently fell below $70 a barrel. That's a more than 40% plunge from the over $120 a barrel price point WTI fetched this time last year. The sell-off comes despite significant global supply issues, additional production cuts from OPEC+, and rising demand. 

However, while oil prices are down right now, many industry experts expect crude oil to rally in the future. That includes Beth McDonald, an executive with leading U.S. oil producer Pioneer Natural Resources (PXD -2.28%). She recently laid out the case for crude oil returning to the triple digits in the coming years. Here's a closer look at the bull case for crude prices. 

Tight market fundamentals

At a recent industry conference, Pioneer Natural Resources executive Beth McDonald discussed the company's oil market outlook. She noted that global oil demand continues to grow while supply growth remains muted. That drives her view that oil prices will rise later this year 

On the demand side, the International Energy Agency (IEA) noted in its May oil market report that global oil consumption is on track to increase by 2.2 million barrels per day (BPD) this year to an average of 102 million BPD. That's 200,000 BPD higher than its forecast the previous month, fueled by a stronger-than-expected demand recovery in China, which set an all-time high of 16 million BPD in March. 

Meanwhile, supplies are constrained. OPEC is holding back additional supply while several countries have encountered production issues this year. In addition, McDonald noted that U.S. oil output growth remains limited. Several factors are impacting the industry, including higher labor and material costs, which are squeezing profit margins. That's leaving oil companies with less cash flow to invest in new production. On top of that, investors have pressured producers to limit spending and return more free cash flow to shareholders. 

McDonald stated, "That squeeze in the margin is really keeping U.S. E&Ps (exploration and production companies) from moving forward in a significant way" with drilling additional wells. She concluded, "You'll still see those modest (production) growth rates and those low reinvestment rates because we continue to focus on returning cash to shareholders." 

Drilling for cash, not more crude

For years, the U.S. oil industry had a reinvestment rate north of 100% of their cash flow as producers plowed every dollar into drilling more wells. However, that strategy of growth at any cost didn't pay off. That led U.S. oil companies to shift their capital allocation strategy to generating free cash flow and returning it to shareholders.

That's certainly the case for Pioneer Natural Resources. The company expects to produce about $9 billion of operating cash flow this year. It plans to reinvest less than $5 billion into drilling, well completions, and new facilities. That's a less than 60% reinvestment rate. Meanwhile, the company expects to return at least 75% of the remaining free cash flow to shareholders via dividends and share repurchases.

The case for higher crude oil

With oil demand rising and supplies constrained, oil prices should eventually rise. In McDonald's view, oil should trade between $70 and $100 a barrel over the next three to five years because OPEC will continue to support prices since it's becoming clear that U.S. producers aren't going back to drilling at all costs. 

She's not alone in this view that oil prices appear poise to rise. The recently published short-term energy outlook by the U.S. Energy Information Administration (EIA) concluded that lower oil production from OPEC combined with rising consumption would "trigger higher crude oil prices," which it expects will occur next year. The EIA recently boosted its 2024 oil price forecast by $9 a barrel to an average of $84 a barrel next year. 

Meanwhile, as demand continues to grow and new supply growth remains limited, oil prices could keep pushing higher in the future. Given the tight market fundamentals, it wouldn't take much to send crude prices back over $100 a barrel. Another supply shock, like what occurred following Russia's invasion of Ukraine, could easily tip the balance and push oil prices much higher.

Higher oil prices could give oil stocks the fuel to produce strong shareholder returns

This outlook bodes well for oil stocks like Pioneer, which should be able to generate lots of free cash flow in the coming years. Given the sector's preference for returning that money to investors, U.S. oil producers could deliver strong total shareholder returns as oil prices rise. That makes now a good time to consider buying oil stocks.