Announcer: Hello and welcome to Minds and Markets, a TDAM Talks podcast. This podcast delves deep into the intersection of minds and markets in the world of investing by exploring sophisticated topics, sharing expert insights and having dynamic discussions. On the episode today, we have our host Naoum Tabet chat with Hussein Allidina on the impact electric vehicles have on the market.
Naoum: The changing in price of commodities impacts our lives in many, many ways. That's why it's important Educate ourselves on how big. And if you think about it, the impact your spending behavior, they move, the stock market and also most importantly, they shape the geopolitical landscape. I think it's obvious and probably very obvious that we're seeing a major shift in the consumers behavior as decarbonization is well underway. We'll chat about how this impacts commodity prices and probably talk about other impacts and beyond. I want to start by welcoming you to Minds and Markets. My name is Naoum Tabet, Managing Director at TD Asset Management and your host. My guest today is one of the most seasoned veterans in the commodities space. I want to welcome Hussein Allidina, Managing Director and head of commodities at TDAM. Hussein, a massive thank you for joining me today.
Hussein: Naoum, thanks for having me.
Naoum: Hussein, my first question really relates to how my spending at the gas pump fluctuated over the last few years. But more seriously and importantly, I want to get a better grasp of what's driven the price of oil. You know, it impacts the stock prices and bond spreads of energy companies, auto sector, aviation companies. And also, let's not forget, also has a massive impact on manufacturing expenses and transportation costs. You know, since the COVID 19 pandemic, we saw the price of oil fluctuate between $110 to as low as $20. You know, these are massive moves in prices. And what I really want to get a sense from you is; what are the factors that contributed to that fluctuation?
Hussein: Naoum, so broadly speaking, commodity prices are determined by the intersection of supply and demand. You're absolutely right that we've seen tremendous volatility in oil price over the course of the last two or three years. We've also seen tremendous volatility in economic growth. Right. So oil prices actually in April 2020, shortly after the world stopped, actually in the U.S., WTI prices traded negative. Right? Briefly. And then you're absolutely right. When we went into 2021, 2022, we saw prices above $100 a barrel. In the COVID period, we saw a contraction in demand, which was unprecedented, a very, very sudden contraction in demand. And of course, supply is inelastic. It doesn't respond immediately. When we fast forward to Putin's invasion of Ukraine, there was tremendous concern about the potential that we would lose, you know, significant volumes of crude from the seaborne market that ultimately was not realized. Right. Production in Russia has…has remained resilient. They've found ways to get around the sanctions. Maybe the sanctions haven't been enforced as strongly as some had thought. And we also saw a material release of SPR in the U.S. on the heels of…of that potential disruption. So, again, the price of a commodity determined by supply and demand, we've seen tremendous volatility or dispersion in demand. And that's what's led to, I think, to the variability that you're seeing at the pump. When you fill up your Escalade.
Naoum: Do you see any supply/demand issues on a go forward basis, or do you have a near-term outlook - or what's your near-term outlook for oil? Talking about that over the next 12 months, maybe a little bit longer?
Hussein: Yeah, for sure. So first and foremost, the starting point is one where inventories have drawn meaningfully over the course of the last several years. Aggregate inventories globally today are tighter than they have been for a very long time. When we look at 2024, if you take consensus forecasts for supply and demand, we should see inventories build slightly over the course of 2024. That probably means that oil stays in this sort of range, I'd argue between $70 and $90 a barrel. I don't think we fall below $70 a barrel, even with, sort of the modest builds in inventories that are expected, given how tight inventories are and given, you know, what I think would be a production response in the US, in particular on the heels of the weak price. On the same token, Naoum, I don't think that you see enough demand growth in 2024 to send prices above $90 a barrel. OPEC also has some spare capacity, right. Part of the reason the market has tightened is because OPEC has willingly taken barrels off of the market. And in an event that there was a supply disruption and or a demand surprise to the upside, they do have barrels that they can bring back to the market. So I think 2024 is probably a rangebound year. But I do believe inventories will stay constrained and that will keep crude forward curves in backwardation, which of course is great for commodity investors.
Naoum: If you think about commodities in general and the impact of decarbonization on the consumption of certain commodities and possibly more closer to fossil fuels, is there any impact on the price of oil that is driven by that decarbonization trend?
Hussein: There's two things I think that we need to think about. On the one hand, the desire to decarbonize and to move away from hydrocarbons is most definitely discouraging investment, all else equal, on the supply side. So if you look at where oil prices are today and where the return on capital employed is today for oil producing companies, you would expect them to be investing more in the ground. They're not. And I think that is a reflection of concerns around ESG as well as ideas, misplaced ideas, in my view, about how quickly we're going to move away from oil as a, you know, form of energy. On the demand side, we are seeing Naoum substitution away from ICE (Internal Combustion Engine) vehicles, away from combustible vehicles, combustion engines to EVs. But even…even with the remarkable growth that you're seeing in that space, it's only on the margin.
Naoum: ... I was just reading not too long ago from the EV growth's, you know, 350 million electric vehicles are expected to be on the roads by 2030. That sounds huge that when I first read and I spoke to a few people that says that doesn't make sense. And then I looked into it. It's actually a number that has been generated by the IEA, the International Economic Energy Agency, and they are saying that there's going to be this amount of vehicles that could be ... obviously it’s a forecast ... on the road by 2030. Now, I know you were getting into this, but maybe to get it a little bit better, you know, from a commodities perspective, you know, obviously just decarbonization trend is underway, but all those vehicles need batteries. All those vehicles need an electric grid in place, charging stations. So how how will this impact the price of commodities?
Hussein: Yeah, so there's two things, right? I don't think I don't think we're moving away from ICE vehicles fast enough. I think the supply side and the dearth of investment, on the other hand ..
Naoum: ... can you maybe clarify what's an ICE vehicle?
Hussein: Sorry, combustible engine. So, you know, ICE and EV. So you've got your combustible engines or the Ford F-150 that I drive has a combustible engine and my wife's Tesla is an EV. As we move away from combustible vehicles towards EVs, absolutely. Demand for power generation is going to increase and that's going to place a considerable amount of demand, I believe, under copper, aluminum, nickel, not only because you need that material in the EV, right? My wife's Tesla has far more copper and it notwithstanding the fact that it's a smaller vehicle than my F-150. But we're also going to need copper and aluminum and steel to build out the power generation infrastructure, right? We can debate what the fuel source of that power generation will be. Will it be nuclear? Will it be natural gas? Will it be solar, wind, etc.? Irrespective of the fuel source, you have to build midstream generation capacity. The power lines that come from Hydro-Quebec to your house Naoum, will need to be built out and expanded to meet that increased power load. So that's very constructive for the metals. Not all of them, especially copper, aluminum, nickel, less so zinc and…and some of the other sort of bulks. But on the energy side, on the traditional energy side, I worry that the demand side is not contracting or we're not moving away from those ICE vehicles fast enough relative to how little supply there is. Remember, we're coming out of a ten year period of exploitation. We're exploiting the investment that we made in the last supercycle. We have not encouraged any incremental commodity production in the last ten years. And today, notwithstanding where prices are, we're not seeing the investment. I think because of, as I said, misguided thoughts around how quickly we're going to move away from energy. I'll bore you for a second, Naoum. If you think about our energy consumption, our oil consumption globally, we consume over 100 million barrels a day and two thirds of that is in transportation. I have to address that. That's the elephant in the room. Yeah. And yes, notwithstanding the fact that EV sales are growing, it still represents, you know, maybe 20% of aggregate sales globally. Forget the stock, the number of cars in the fleet that's materially lower. Today, 20% of sales are EV, that means 80% are still consuming gasoline, diesel, etc.. And that's where, you know, I worry that we're not going to move away from oil demand fast enough. And of course, the pressure that it puts on the metals balances leaves us very constructive on the metals.
Naoum: So thinking about the metals and you know, assuming that we could get to these amount of vehicles and, you know, production ramps up and everybody will have an EV in their driveway, we could all attest that historically, even today, oil access was and still is a major source of issues or discord between many countries and nations. We saw wars occur. We saw alliances being forged because of oil. I recently read, that reduction in processing operations for a lot of those minerals used in battery production. As you said, expanding the electrical grid are very concentrated in specific regions and countries. Is the system at risk or vulnerable to disruptions or is there a possible increase in geopolitical interest? First, does what I say makes sense? And do you have any thoughts on it?
Hussein: Yeah, absolutely. So if we look at the concentration of oil production as an example, you know, we hear quite often that we're very dependent on countries, geographies, that aren't necessarily friendly to the West. As we move away from conventional energy consumption towards renewable, which requires those metals and those critical minerals. The production of some of those commodities is even more concentrated. And the refining - the conversion of that war into something that we can consume is even more concentrated and again, in places that not (are) necessarily friends of the West. So it is definitely not a seamless and easy transition, right? There's going to be challenges associated with making that transition. Once we're able to make it, we have to worry about security of supply, arguably even more so than we do today. Now, there will be effort, I think, to grow production in, you know, the OECD. And, you know, you might end up with like duplicative supply chains. That's possible. But today, if we look at where those ore, where that ore is found and more importantly, where that war is refined largely in China, where arguably concentrating our risk even further.
Naoum: So, you know, like maybe to just summarize it all in, there's some misconceived perceptions out there that oil is going to be much less used in the near future. Oil prices could be going down, which is obviously not to explain to us why and also that there's this simple thinking around expanding the electrical grid. What come with its issues. And obviously those issues are based in concentration of production and processing, which we definitely will keep a close eye on. You know, Hussein, we could talk about this subject for hours, but I'd love to have you back because I really want to discuss inflation protection with you. A lot of our clients are asking questions around that, and I really want to understand why and how the largest pension funds use commodities to manage the inflation risk. But that's for another time and another topic. Thank you so much for joining me today and thank you everyone for connecting into this podcast.
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