The energy sector is at a crossroads. Iran has effectively closed the Strait of Hormuz to oil tanker traffic since the end of February. As a result, the world has lost over 500 million barrels of supply, which it's currently taking out of inventory. With peace talks between the U.S. and Iran going nowhere these days, the Strait is unlikely to return to normal anytime soon.
Here's a look at the likely next move in the energy sector and what it means for investors heading into this summer.
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Even the base case is bullish for oil prices
The global economy is currently consuming between 10 million and 13 million barrels of oil per day more than the oil industry is producing due to the Strait of Hormuz closure. It's taking that oil from global stockpiles, including the U.S. Strategic Petroleum Reserve. On a positive note, the industry entered this year with its highest inventory levels since the late stages of the pandemic. However, it has burned through at least 500 million barrels of that surplus so far.
On a best-case scenario, shipments through the Strait of Hormuz will start to normalize by the end of this month. That assumes that the U.S. and Iran agree to a peace deal or the U.S. reboots Operation Project Freedom and provides Navy escorts through the Strait. Even if that happens, the global economy will have lost between 1.2 billion and 2 billion barrels of supply by the time the oil market normalizes, according to Rystad Energy, about 16% to 27% of pre-war inventories. That's due to the time it will take to restart oil wells shut in due to the war.
In the view of ExxonMobil (XOM 0.29%) CEO Darren Woods, "It's obvious to most that if you look at the unprecedented disruption in the world supply of oil and natural gas, the market hasn't seen the full impact of that yet." As a result, most oil market analysts expect oil prices to remain high for the rest of this year, and likely well into 2027 as the global economy rebuilds its inventory to buffer against a future supply shock. The current consensus analyst estimate is that Brent oil, the global benchmark, will average over $86 a barrel this year. That's up from the initial forecast of $62 per barrel.
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Key Data Points
Elevated risks of an oil price spike
Brent oil is currently well above that level at more than $100 a barrel. It could go much higher in the near term. JPMorgan recently warned that Brent could spike to $120-$130 a barrel, with a risk of topping $150 a barrel if the Strait of Hormuz remains disrupted. That could push Brent's average closer to $100 for the year.
Meanwhile, an adverse-case scenario for oil prices is a resumption of the war. The U.S. would likely target Iran's oil infrastructure, such as its key oil export hub at Kharg Island, which would undoubtedly drive Iran to retaliate against oil infrastructure in the Persian Gulf. It could target the oil pipelines that bypass the Strait of Hormuz (Saudi Arabia's East-West pipeline and the UAE's Abu Dhabi Crude Oil Pipeline), oil export terminals outside the Persian Gulf that support those pipelines, and involve the Houthis of Yemen to close the Bab el-Mandeb in the Red Sea. If Iran damages key oil infrastructure, it could take years to repair, causing a long-term impact on the oil market, further delaying a return to normal.
Now is the time to buy oil stocks
The market seems to be underappreciating the potential that oil prices will spike this summer and remain high for at least the rest of this year, if not well into 2027. That's evident in oil stock prices. For example, ExxonMobil stock is up less than 25% this year even though Brent oil has surged more than 70%. While Exxon's profits didn't soar in the first quarter due to some timing issues, they should rebound as it delivers those products in the coming quarters and oil prices remain elevated. Exxon doesn't plan to increase capital spending this year, positioning it to generate even more free cash flow. Exxon expects to pay about $17 billion in dividends and repurchase $20 billion of its shares, while allowing its remaining free cash flow windfall to pile up on its balance sheet to fortify its financial profile against future oil market downturns. Growing cash flows and cash balances should give oil stocks the fuel to produce strong returns over the next year. That makes now the time to buy before a potential summer surge.
