Oil Is Not Well

Oil Is Not Well

The US oil benchmark, West Texas Intermediate (WTI) crude futures recently eclipsed the USD 80 per barrel mark for the first time since November 2014. Crude oil prices on the Multi-Commodity Exchange (MCX) also surpassed Rs. 6,100 per barrel, rallying to its highest level since October 2014 on the back of soaring demand, narrow supplies and buoyant domestic as well as global equity markets. Other factors that have contributed to this phenomenal rally include less drilling by shale gas producers in the US, hurricanes in the Gulf of Mexico, impending winter and revamping of commercial activity globally as the pandemic allays.

The OPEC and OPEC plus countries’ decision to adhere to their schedule to gradually hike oil production by 4,00,000 barrels per day in November despite the recent fuel shortage is suggesting a further upside in the prices of black gold. Oil prices have surged alongside a broader rally in commodities including natural gas and coal amid an energy crunch that’s sweeping Europe and Asia. US natural gas futures surged to more than USD 6 per million British thermal units, their highest price in seven years, after inventories of the furnace and power plant fuel grew by less than expectations, thereby amplifying concerns about supplies for the upcoming high demand winter season.

As per data released by the Petroleum Planning and Analysis Cell, India’s September fuel consumption stood at 15.92 million tonnes, up marginally from August and 5.2 per cent higher relative to September 2020 as economic activity gained traction. However, consumption was still 1.7 per cent below September 2019 levels. Shipping constraints and monsoon led to shrinkage in consumption during August 2021. Diesel consumption, which typically accounts for approximately 40 per cent of refined fuel sales, also fell by 1.7 per cent month-onmonth basis to 5.51 million tonnes and was 5.6 per cent lower versus September 2019.

Negative Spin-Offs from Rising Oil Prices

The rally in crude oil prices could stall recovery in our country. Besides adding to fuel costs that pinches consumers, high fuel prices could also have an adverse impact on the country’s fiscal deficit. India imports approximately 1.5 billion barrels of crude oil each year, which is roughly 86 per cent of its annual crude oil requirement. Hence, the surge in crude oil prices could increase India’s expenditure, thus adversely affecting the country’s fiscal deficit. The fall in crude oil prices was a major contributing factor in the reduction of India’s fiscal deficit between 2014 and 2016. As per experts, for every USD 10 increase in crude oil prices, there would be a corresponding 10 basis point increase in the fiscal deficit.

Oil is a necessary raw material used in a plethora of industries. An increase in crude oil prices would increase the cost of producing goods. This price rise would finally be passed on to consumers, thus resulting in inflation. Soaring crude oil prices has a distinct impact on the Indian rupee. In addition, if crude oil prices sustain at high levels, the rupee is further expected to depreciate by year end. Rupee depreciation has a reverberating effect on the Indian economy as well as the stock market.

The Indian stock markets have historically faced heavy pressure as a consequence of elevated crude oil prices. From May 1 to 24, 2018, BSE Sensex fell by 2.3 per cent. In comparison, the BSE Mid-Cap and Small-Cap indices further bore the brunt with a drop of nearly 8 per cent each. Multifarious Indian businesses are heavily dependent on decent crude oil prices. The profitability of these companies is adversely affected due to higher input costs. This negatively impacts stock prices in the near term. On the other hand, oil exploration and marketing companies in the country usually benefit from the hike in oil prices.

Oil explorers are set to gain from the ongoing climb in the global crude prices. Upstream companies such as Oil India and ONGC are likely to benefit from higher realisations, underpinned by increase in oil and gas prices as well as higher sales over a low base. With petrol and diesel prices getting marketlinked, these companies have no major subsidy burden to be shared with oil marketing companies, consequently improving earnings outlook. Oil India has already received a re-rating from analysts.

Impact on Sectors

Higher crude prices pose bad implications for some prominent business across sectors such as:

Aviation: Lofty crude oil prices impairs profitability as aviation turbine fuel (ATF) forms a huge chunk of the operating costs of airlines and at present, passenger load factors aren’t adequate to compensate for the rise in costs. Ergo, leading to an uptick in the cost of air tickets and curtailing demand. However, with the government restoring scheduled domestic operations from October 18, 2021, this is expected to help aviation companies ease the impact of rising crude prices.

Automobile : Steep crude prices translate to higher petrol and diesel prices, posing an inflationary risk to consumer demand. Rise in freight rates doesn’t augur well for commercial vehicles’ demand in the near term. In contrast, the impact on passenger and two-wheeler vehicle demand is relatively smaller. Paints: Inflated crude prices are not desirable for paint companies as a large share of their input costs are crude oil-linked. For example, crude oil and the derivatives account for half of the costs of

Asian Paints. Cement: Higher oil prices adversely impact cement firms as they thrust petroleum coke prices. Fuel and power expenses account for 25 per cent to 30 per cent of the sector’s total operating cost and increased freight costs further truncate margins.

FMCG: From securing raw material to packaging of finished products, fast-moving consumer goods companies bear the brunt of elevated oil prices at every level. In order to safeguard margins these companies then implement price hikes on products in an attempt to pass the burden of this high input cost to consumers, which impacts market demand and end user’s purchasing power. 




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