In this Global Trends report, we examine the coming year. Key themes are low commodity prices, geopolitical tensions, over-capacity issues in China, and the re-emergence of global climate concerns. Uncertainty dominates the outlook. For many, it's a time to re-evaluate, to scale back. But others see it as a time to adapt, renew and reinvent their focus.
2016 is off to a volatile start with oil and gas prices at multi-year lows, geopolitical tensions rising, and corporate cutbacks in the face of low commodity prices.
Events of late 2015 and early 2016 — including OPEC's decision to maintain market share despite Iran's supply coming online, the COP 21 climate conference prompting major economies to support curbing GHG emissions, China's economic slowdown, and the US raising interest rates for the first time in nearly 10 years — frame this year as a potential turning point.
But is that turning point simply the bottom of a commodity cycle, or the start of a fundamentally new era?
China's next phase
China's economy is slowing as it transitions to a more mature economic phase. 2016 marks a pivotal year as a new Five Year Plan (FYP) is unveiled, setting the tone for President Xi's remaining time in office. The FYP will also determine the extent to which China addresses key economic issues, including its overbuild in housing and heavy industry, and high levels of debt. China's demand for resources appears to be fading, with big implications for global commodity markets.
Saudi Arabia severing its diplomatic ties to Iran just prior to Iran's return to the oil market made waves in the first week of 2016, underscoring the existing lack of incentive for OPEC to cut supply. With wars raging in Syria and Yemen, the Middle East remains under immense stress and uncertainty. Counterintuitively, these circumstances could continue to place downward pressure on oil prices rather than ushering in the formerly typical risk premium.
Conflict in the Middle East also continues to fuel the refugee crisis in Europe and subsequently, threaten the freedom of movement within the Eurozone. Synchronously, the so-called "Brexit" referendum looms, in which the UK re-evaluates its EU membership and weighs the resulting economic consequences for both Britain and Europe.
Commodities at multi-year lows
We expect oil prices to bottom out in the first half of 2016, marking a turn in the cycle toward eventual recovery as non-OPEC supply growth goes into reverse. Gas and coal, however, have longer to wait before prices bottom out and begin to rebound.
China again plays a pivotal role in commodity recovery, as its delayed demand growth could encourage global gas oversupply, while support for the country's domestic coal industry could further reduce imports, and dampen the recovery prospects for global coal markets.
Low commodity prices, a stronger US dollar, and rising inflation and interest rates for some, are a recipe for sustained pressure on emerging-market, commodity-producing economies.
A stronger US dollar and higher interest rates make it more challenging for producers that issued US dollar denominated debt in a low interest rate environment with a relatively weak US dollar. This is largely a corporate story, but sovereigns are also under pressure. A worst case scenario suggests this new set of circumstances could lead to a flurry of defaults – both corporate and sovereign.
While E&Ps make even deeper cutbacks, many companies must start adapting their portfolios, making them more flexible. Although there will be an emphasis on simply surviving 2016, some companies may view 2016 as a transitional year as investments in renewable energy sources could hold significant promise down the line.
Whether 2016 is the Year of Rock Bottom or the Year of Reinvention remains to be seen — and quite likely depends upon how a company or producer is positioned in the industry and in the world. What we do know is that it's a year bound to be shaped by fast-changing geopolitics, transitioning commodity cycles and a view toward a reframed energy policy.
Our full report, Global Trends: what to look for in 2016, is available on-demand, as well as a part of our subscription service.
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