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Why Global Oil Demand Could Soon Peak

By Arjun Sreekumar - Apr 7, 2013 at 12:00PM

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Citigroup argues that global oil demand is nearing a tipping point and draws a shocking conclusion about where oil prices are headed.

Citigroup (NYSE: C) stoked a major debate when it argued earlier this year that America would become energy independent by 2020. Now the bank is out with another bold new call. In a research paper titled "Global Oil Demand Growth -- The End Is Nigh," Citigroup argues that global oil demand is "approaching a tipping point."

The bank suggests there are two factors underpinning this expected trend. Let's take a closer look at both of them, as well as the shocking conclusion Citi draws about the future of oil prices.

Shift toward natural gas
The first factor is a transition away from oil and toward natural gas as a fuel source. The shale gas revolution has already provided American consumers and companies with cheap and abundant supplies of the clean-burning fuel. It has even ushered in a so-called "renaissance" for domestic manufacturers, including chemical manufacturer Dow Chemical (DOW) and steelmaker Nucor, which have moved or are planning to move plants that were previously relocated abroad back to the United States.

In addition, several U.S. truck manufacturers are capitalizing on cheap natural gas by equipping new vehicles to run on nat gas instead of diesel. For instance, Navistar (NAV) reckons that over the next two years, a third of all its new trucks will be powered by natural gas instead of diesel.

Natural gas engine manufacturers such as Cummins (CMI -0.41%) and Westport Innovations (WPRT 3.31%) will play a major role in driving this shift. In February, the two companies said their joint venture, Cummins Westport, is providing engines for two of the biggest natural gas transit fleet orders ever filled in North America.  

Both see massive potential in the North American long-haul trucking market, especially as companies such as Clean Energy Fuels (CLNE 2.04%) develop the natural gas refueling infrastructure necessary to support the transition toward gas-powered vehicles. Having already built dozens of new LNG truck fueling stations, Clean Energy plans on completing an additional 70 to 80 LNG fueling stations adjacent to long-haul trucking routes and key warehouse distribution centers across North America.

If the price of natural gas remains cheap compared with diesel, projects such as these should continue to flourish.

Improving fuel economy
The second major factor that points to a peak in global oil demand, according to Citigroup, is improving fuel efficiency among new vehicles. According to Citi's estimates, fuel efficiency among new cars and trucks is improving at an annual rate of 3%-4% and 1%-2%, respectively. Combining the two, the bank suggests new vehicles' fuel economy is improving by around 2.5% every year -- an estimate it deems conservative.  

Since the U.S. passed the Energy Independence and Security Act of 2007, which enforced higher Corporate Average Fuel Economy standards, vehicle fuel efficiency has improved drastically. The trend also appears to be catching on in other parts of the world, with the European Union, Japan, and Canada having passed similar mandates.

Though Citi acknowledges the slower pace of fuel economy improvements for the global fleet of light-duty vehicles, which was just 1.8% per year over the period 2008 to 2011, it expects more drastic improvements going forward. In the coming years, it forecasts annual LDV fuel economy improvements in the range of 3%-4%, as key emerging countries, especially China, place a greater emphasis on fuel economy.  

Citi's bold conclusion
Though it's hard to argue with the broad trends Citigroup highlights, you may be shocked by its conclusion that "by the end of the decade Brent prices are likely to hover within a range of $80-90/bbl." These projections are a sharp departure from mainstream views, which suggest that oil prices will continue to march higher over the remainder of this decade, led by rising demand from emerging economies and buoyed by the high marginal costs of production for unconventional oil.

In fact, the Organization for Economic Cooperation and Development recently said oil prices could rise to between $150 and $270 per barrel by the end of this decade, led by emerging-market growth.  

What do you think? Will emerging-market demand outweigh fuel efficiency and other improvements, driving oil prices higher? Or will the shift to alternative fuel sources drastically reduce the global economy's dependence on oil?

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Stocks Mentioned

DuPont de Nemours, Inc. Stock Quote
DuPont de Nemours, Inc.
DOW
Navistar International Corporation Stock Quote
Navistar International Corporation
NAV
Cummins Inc. Stock Quote
Cummins Inc.
CMI
$201.88 (-0.41%) $0.83
Westport Fuel Systems Inc. Stock Quote
Westport Fuel Systems Inc.
WPRT
$1.25 (3.31%) $0.04
Clean Energy Fuels Corp. Stock Quote
Clean Energy Fuels Corp.
CLNE
$4.99 (2.04%) $0.10

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