Does Saudi Aramco's IPO shine a spotlight on growing long-term oil demand risk?




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By John MillerVP and ESG Senior Research Analyst, Calvert Research and Management

WASHINGTON - In canceling its planned initial public offering (IPO) marketing efforts in North America, Europe and Asia, the Saudi Arabian Oil Company (Saudi Aramco) has become the latest fossil fuel producer to be caught up in growing investor anxiety related to long-term oil demand.1

With a production capacity greater than 13 million barrels of oil equivalent per day (mmboe/day), production costs of less than $3 per barrel,2 the fourth largest installed downstream refining capacity and an annual free cash flow of $85.8 billion in 2018, Saudi Aramco is an enormous business entity.3

Despite these advantages, the outlook for long-term oil demand remains weak. In its 2019 World Energy Outlook, the International Energy Agency (IEA) outlines global oil demand, which stood at 98.8 million barrels per day (mmbbl/day) in 2018, rising to the levels of 103.5 mmbbl/day by 2025 and then 106.4 mmbbl/day by 2040 within the Stated Policy Scenario (SPS).4 Global oil demand growth along this path would imply a 2018-2040 combined annual growth rate (CAGR) of 0.4%. For comparison, global oil demand growth reported a 2000-2018 CAGR of 1.26%.

Calvert believes that the IEA's SPS growth projection is overly optimistic. Rather than reporting continued weak growth, Calvert's research indicates that 2040 global oil demand is more likely to report meaningful declines from 2018 levels, at or below 70 mmbbl/day. Energy efficiency, the increased use of natural gas and renewable energy sources (solar and wind power), and the introduction of new technologies (electric vehicles) are all key drivers in declining oil demand.

Investors broadly have caught on to this demand risk. The energy sector, as a weighting of the S&P 500 Index continues to press new lows. As of November 22, 2019, the sector reported a 4.36% weight, down from a 10-year high above 13% in 2010.5 Key valuation statistics are equally depressed. The energy sector reported an aggregate price-earnings ratio of 18.3% (ranking 10th out of 11 S&P 500 sectors) and an enterprise-value-to-earnings before interest, taxes, depreciation and amortization (EBITDA) ratio of 9.14%, the lowest in the index.6

Calvert blog 12-2-19a

Bottom line: We believe growing uncertainty related to the long-term demand for oil will continue to serve as negative pressure on oil producers. Calvert's research process seeks to identify and invest in companies that are leveraged toward low or carbon-free assets and services, in addition to companies reporting optionality in regards to existing fossil fuel assets and services.

The views expressed in these posts are those of the authors and are current only through the date stated. These views are subject to change at any time based upon market or other conditions, and Eaton Vance disclaims any responsibility to update such views. These views may not be relied upon as investment advice and, because investment decisions for Eaton Vance are based on many factors, may not be relied upon as an indication of trading intent on behalf of any Eaton Vance strategy. The discussion herein is general in nature and is provided for informational purposes only. There is no guarantee as to its accuracy or completeness.