Oil and gas have been hit dramatically by COVID, speeding the transition out of them

DISCLAIMER: All opinions in this column reflect the views of the author(s), not of EURACTIV Media network.

Oil prices have dropped significantly during COVID-19, plunging again in the second wave [Maarten Heerlien / Flickr]

COVID-19 has had a wide-ranging impact on oil and gas, with estimates showing that oil demand could peak as early as 2025, rather than 2040, and that gas will be a much shorter bridge into renewables, writes Simon Redmond and Elena Anankina.

Simon Redmond and Elena Anankina are Senior Directors at S&P Global Ratings, a financial services company.

The COVID-19 pandemic is one of the most severe shocks to the energy sector, and indeed the global economy, in modern history.

On top of the massive disruptions to business, mobility and everyday life, there have been clear signs that the EU plans to make the economic recovery a green one – having dedicated an additional €225 billion (or 1.7% of GDP) to the energy transition.

This, too, will have considerable effects on the oil and gas sectors. From a credit perspective, we have seen earlier and more severe rating downgrades among oil and gas companies than during the 2014-2015 oil price collapse.

And yet the near-term and long-term impacts upon each fuel have been remarkably distinct. Indeed, oil has experienced the biggest near-term impact this year of all the primary energy sources.

Petroleum’s pre-eminence as a land, air and marine transport fuel saw oil consumption drop dramatically amid widespread lockdowns and travel restrictions, with demand falling by over 20 million barrels a day in March and April 2020 alone according to our sister company, S&P Platts.

We anticipate that COVID-19 has reduced long-term oil demand globally by 2.5 million barrels per day. Nonetheless, the decline is not enough to bring forward meaningfully peak oil demand (which is projected in 2040 when including petrochemicals).

By contrast, the pandemic has had the lowest short-term effect on natural gas demand, when compared to other fossil fuels.

The downside for gas, rather, is longer term: though gas will remain important in filling the gaps in Europe’s energy mix caused by nuclear and coal phaseouts, its role in the energy transition is likely to be threatened more than any other fuel over the next 10 years.

Our sister company S&P Global Platts reduced its 2030 global gas demand outlook by 9%, more than for any other fuel.

The pandemic’s lingering impact on GDP and primary energy consumption squeezes gas between growing renewables capacity and sticky cheaper coal.

Gas is often labelled a “bridge fuel” – a cleaner alternative to more carbon-heavy fossil fuels that serves to reduce emissions while easing the transition to renewables.

In our view, COVID-19 made the gas bridge shorter.  In short, no other energy source holds the dual role of being both part of the problem, as well as the solution.

Peak oil still on schedule

We expect overall global oil demand for 2020 to decline by 8.1 million barrels per day, wiping out the past six years of growth.

While the global oil market will rebound considerably as the world economy ultimately recovers and lockdowns ease, the disruptions to both global oil demand and supply will persist far after the pandemic has ended, with considerable implications for the energy transition.

Many businesses and employees have expressed an intention to make remote working arrangements permanent, reducing real estate and commuting costs.

Business travel will be reduced for the foreseeable future as well, and the aviation sector faces a long, stubborn road to recovery. Ultimately, we anticipate that overall consumption will not return to pre-COVID-19 levels until late 2022.

Despite this, the decline witnessed in 2020 is not meaningful enough to substantially alter the timing of peak oil demand nor to align oil sector CO2 emissions with a 2°C warming target.

Indeed, we still expect 75% of this year’s decline in oil demand to return in 2021 – partly due to cheaper oil prices dampening appetite for electric vehicles.

Only in a pessimistic scenario for demand, could the ramifications of the pandemic bring peak oil forward significantly.

In a sensitivity analysis conducted to determine the most severe effect COVID-19 could have on demand, Platts Analytics assumed that remote working becomes the status quo following the pandemic.

A similarly severe reduction in aviation demand was adopted, implying that the world will only approach pre-pandemic levels of air travel by 2030 (as opposed to our baseline assumption of 2024).

This scenario also assumes reshoring of supply chains away from countries where oil use is high in the industrial sector, specifically China, Saudi Arabia, and Mexico. Together with other factors, these modelled trends point to a world that could see peak oil demand as early as 2025, instead of 2040 as otherwise estimated.

Gas sees its bridging role reduced

The long-term outlook for global natural gas demand remains stronger than other fossil fuels, with continued growth over the owing largely to continued industrial demand in Asia and the Middle East.

In Europe, however, the growth is essentially over. The Green Deal, which aims to achieve net zero carbon emissions by 2050, limits the long-term growth potential of natural gas, while the European Green Taxonomy effectively excludes unabated gas.

In 2020, record low gas prices and demand destruction through COVID-19 put pressure on gas companies’ 2020 financial metrics, and growing regulatory pressure in Europe has led to outlook revisions for gas utilities in the U.K. and Spain.

Still, we believe that short-term risks generally manageable for most large-rated European gas producers and utilities thanks to supportive regulations, diversification, capex and dividend cuts.

The fundamental challenge for gas will come from its contribution to global emissions and the growing commercial and policy-driven pressure to skip, or at least accelerate, the bridging role of gas.

That said, gas will likely remain an instrumental part of Europe’s energy mix until 2030, as expected growth in renewables is unlikely to make up for the shortfall prompted by nuclear and coal phaseouts.

Ultimately, the energy transition makes European gas players re-think their long-term strategies. Many European producers – who once viewed gas as a key part of their long-term decarbonisation strategies – are now diversifying more.

Instead, companies like BP are now increasingly aiming to become diversified energy players through investments in renewables; carbon capture, utilisation, storage; and hydrogen – with an eye on achieving zero-net emissions by 2050.

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