Investment
How to gain from likely rise in oil prices
December 2, 2004
 By Renée Bonorchis
Johannesburg - With the price of Brent crude oil trading at a more manageable $44 a barrel and the rand consistently steaming its way below R5.85 to the dollar, South Africa can expect lower petrol prices in the next couple of months.
Crude oil prices are still more than 50 percent up on the year but are about 11 percent off those highs above $50 a barrel, which shook the globe in October.
"Short-term oil prices have already come back substantially off their highs despite the fact that we are entering winter in the northern hemisphere, which is traditionally a period of higher demand and prices," said Jason Chesters, the head of portfolio management at Tri-Linear Asset Management.
"Looking through till end 2005, I would expect Brent spot prices to have retreated further to a level of between $35 and $40 a barrel."
What will help are Saudi Arabia's plans, announced at a conference in London last week, to expand output capacity by 14 percent.
By increasing production from 11 million barrels a day to 12.5 million, Saudi Arabia, the world's largest oil exporter, hopes to avoid shortages as demand grows.
According to Bloomberg News, producer cartel Opec has raised output to its highest level in 25 years in response to rapid demand growth and record prices.
Light sweet crude oil peaked at $55.67 a barrel in New York on October 25 following concerns about shortages and supply disruptions from Iraq, Nigeria and Russia.
A report from Merrill Lynch, the global investment house, said activity in the European market suggested the sector was discounting an oil price of around $31 a barrel for Brent crude next year.
Despite Saudi Arabia and Opec's ability to increase supply, which will bring prices down, the long-term outlook for consumers of this finite commodity may not be so rosy.
As Chesters pointed out, there were a number of problems facing oil importers in the future. For one, reserves seem to be contained in areas of political and economic unrest.
"Secondly, at current rates of production, some countries are going to exhaust their reserves within the next five to 10 years, placing further reliance on unstable countries like Saudi Arabia to supply the commodity and giving them more power to control prices," Chesters said.
Simple arithmetic shows that the world's known reserves will have been completely exhausted, assuming no increase in demand, within 43 years.
If consumption continues to increase at its current rate, Chesters said one study had put the peak in production from known reserves at 2016. That's just 12 years away.
South Africa imports about 50 percent of the oil it needs to produce fuel and for other oil-based production processes, like plastics and rubber.
Sasol, the local petrochemicals firm and Africa's largest company, produces the other 50 percent locally, reducing the country's reliance on imports.
Right now the firmer rand is largely insulating South Africa from the direct impact of higher oil prices on inflation and is making a strong case for an interest rate cut later this month.
However, higher oil prices in the long term would be inflationary because they would boost fuel prices, plastics prices and more.
For an investor with a longer-term view, the point to figure out is how to gain from the likely rise in oil prices in the next few years.
"South Africa's reliance on oil is very much linked to global reliance on oil. If there is a concerted effort to move towards clean energy then the reliance would diminish.
"The problem is the economic viability and speed of delivery of viable alternatives," Chesters said.
As an example, Chesters found that General Motors recently tested its hydrogen car in Europe, driving it 10 000km to Lisbon.
A General Motors spokesperson was quoted as saying that the car could achieve a top speed of 160 km/h, but that commercial viability and distribution would take 10 years.
Nonetheless, as an even longer-term investment, companies involved in investigating technologies to harness renewable energy sources would give investors an option on the future of oil substitution.
The best exposure in South Africa to higher oil prices would be through Sasol and BHP Billiton. However, Chesters added, there were knock-on effects for other industries with regard to input costs.
Sasol's ability to convert coal and natural gas to liquid fuel and other chemicals, as well as its geographic positioning, made it an investable stock for this type of exposure.
The drawback for Sasol, in the short term at least, was the strength of the rand and its impact on the company's profitability, Chesters said.
Nico Lambrechts, energy analyst at Merrill Lynch in South Africa, downgraded his opinion on Sasol two weeks ago.
Reasons given were the decline in the rand price of oil; the fact that Sasol could trade at below R110 a share if it continued to correlate with Brent crude; and continued rand strength, coupled with further declines in the oil price, which could lead to earnings downgrades for the company.
Despite these negatives and financial results that have been ravaged by the rand for the past 18 months, Sasol's share price has been on the up.
Since its listing on the New York Stock Exchange in April last year the share has appreciated 32 percent, closing at R117.20 in Johannesburg yesterday.
The share is up more than 18 percent on the year and, along with Brent prices, hit its peak at above R130 in October.
If oil does react as expected, South Africans can look forward to lower petrol prices in the immediate future. In the medium to longer term, filling the car's tank could hurt unless Sasol starts pumping out a whole lot more gas and supplying more of the country's needs.
At that point, however, Sasol's share price may do so well that an investment in the company could mitigate the pain of buying fuel.
In the long term the whole globe would benefit enormously from the use of environmentally friendly, renewable energy sources.
This is one instance where a long-term view isn't a choice, it's a must.
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