Backwardation, oil prices, and family offices


The oil price has celebrated the inauguration of Joe Biden as US president by hitting $56 a barrel – its highest in a year. 

Growing speculation in the futures market could push the price higher due to supply bottlenecks and post-vaccine reflation which, in turn, will push up inflation. 

The oil price rise may provide opportunities to refinance struggling shale businesses and bring dormant wells back to life. A gap in the market has opened for families to refinance their operations, now banks are reluctant to finance fossil fuel projects. 

But today’s family offices are far keener to push ahead with clean energy, which is now more competitive after the hike in oil prices. Breakthrough Energy Ventures, led by Bill Gates, has raised new funding to double its venture capital firepower to $2 billion, according to Bloomberg. 

A recently published survey by BlackRock found that a staggering 79% of family offices were interested in clean energy. A survey by Family Capital published last November identified 45 family offices keen to get involved. 

The days are long gone when the US oil scene was led by fortune seekers like Sid Bass, T. Boone Pickens, John Goff, Richard Rainwater and Nelson Bunker Hunt.  

Their family enterprises went on to diversify massively although John Goff’s family office, Goff Capital, continues to back energy producers, along with real estate and other businesses. 

The oil sector is now dominated by multinationals, state enterprises and sovereign wealth funds. Smaller oil and shale explorers still struggle. That said, oil at $56 brings hope and technology can limit environmental damage, as explored by Family Capital lat July. 

The latest spurt in the oil price follows its crash to $20 a barrel in February 2020 due to a Covid-19 slump in demand. The price staggered up $40 as Opec members led by Saudi Arabia and Russia wrangled over how to restrict supply.

Saudi Arabia has now cut its output. Demand from Asia is rising with Unipec, China’s leading oil trader, often popping up as a buyer. The International Energy Agency has forecast that oil inventories will drop 100 million barrels during the first quarter of 2021. 

The Biden administration is determined to do what it takes to stimulate the US economy, potentially fuelling demand – and inflation – as soon as vaccines start to become effective. 

Biden has also cancelled the $1.1 billion Keystone XL tar sands project and stopped US Arctic exploration. Independent analyst Phil Flynn confirms that socially aware banks have become reluctant to lend to shale producers: “As more banks look to boycott oil and gas it will be small shale oil producers that will bear the brunt of the pain.”

In his view, this will encourage Opec to take a tougher stance to the benefit of the world’s biggest producers. Tighter oil supplies mean random events, such as strikes in Norway’s Mongstad oil refinery could have more impact on prices. 

Tighter supply will also encourage bulls to play the futures market, which has entered backwardation, where futures are trading below crude’s spot price. 

Backwardation means traders can expect futures to rise in value to meet the spot price as they mature, making it easy to roll positions forward, while generating an income.

In contrast, when spot prices are higher than futures, investors need to deal with contango, where they need to stump up more money to roll positions forward. 

Backwardation is being experienced in other commodities markets, where supply is tightening, particularly in the agricultural sector. 

The State Street ETF which tracks the futures-driven Goldman Sachs Commodities Index is up 25% over three months. State Street’s oil tracker has jumped 40%,

Over the last three months, big oil shares have also surged. Exxon Mobil has risen 44%; BP is up 48%; Chevron is up 32%. 

But clean energy funds have performed even better, for longer, by investing in solar power stocks. 

The Invesco Solar ETF has returned 59% over three months, after generating 233% over twelve months. BlackRock’s Global Clean Energy ETF has risen 44% over three months and 143% in a year.

Confidence is growing. Around 60% of family offices do not feel they need to sacrifice investment returns to achieve a sustainable approach.  

A staggering 79% of family offices expressed the greatest interest in clean energy. According to one respondent: “We like it as an asset class. It now has more tailwinds from the investor community and government policy.”

To date, families have been most interested in wind and solar projects. But battery storage is becoming more popular, along with energy distribution, nuclear fusion and fuel cells. 

A report published last year by PwC found the money pouring into clean energy soared from $400 million in 2013 to $16 billion in 2019.  This harks back to the years before the financial crisis in 2008, when investors committed large sums to the sector, only to suffer badly in the downturn.

This time round, the foundations for growth look sounder, although investors committing to clean energy need to recall that they are speculating over the future of startups as well as trying to save the planet. 

And recent performance does not prove anything about the future.


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