Think Longer-Term Here, What Happens To Russian Oil Production From Here On Out?

Put aside the near-term events for a second here and let's focus on the bigger and longer-term picture of the oil market. Russia is the world's second-largest oil producer. Even prior to the Ukraine invasion, Russia's oil production was expected to peak because of the lack of investment during the 2014-2019 period.

This was detailed in an Oxford Institute for Energy Studies paper.

Brownfield is the production that's currently on, while Greenfield is the production that's expected to come on. Since this paper was written in 2019, we are now already at the apex of Russian oil production. Following the price war of 2020 where Saudi specifically targeted Russian oil production shut-in, there's been a meaningful impact on Russia's total capacity. We estimate Russia's peak capacity to be around ~11.1 million b/d versus the ~11.9 million b/d previously.

Now with the West sanctioning Russia's financial system and servicing companies pulling out and capital being constrained (from oil majors leaving), what happens to Russia's oil production going forward?

Here is the author's analysis assuming a steady 2% and 4% decline rate. Even under the base case scenario, Russia's oil production was expected to peak this year and fall gradually into 2030. With the situation we just laid out above, there is a good chance Russia's oil production will fall closer to the 4% decline rate scenario. 

This brings a rather interesting scenario to our hands. Even if China and India step in the near term to fight off the possible decline in Russian crude exports, the longer-term picture is all the same. Without capex investment into Russian oil fields, the decline will get steep, and the total capacity will decrease.

While Moscow is setting a target of ~11 million b/d for the long-term, the approved greenfield projects up to 2019 were not enough to keep production flat. This scenario has likely been exacerbated following the Ukraine invasion.

What does this mean for global oil supply & demand?

I need you to sit somewhere quiet now and think this through. I'm going to lay out the scenarios and you have to come to your own conclusion.

Today's oil market deficit is ~2 million b/d. If you want to be conservative, let's call it ~1 million b/d.

Oil demand growth from 2022-2030: ~6 to ~7 million b/d.

US oil production growth from 2022-2030: 2 to 3 million b/d.

OPEC+ spare capacity: 1.5 million b/d.

Iran: 1.4 million b/d.

Canada: 500k b/d.

Russia: -3 million b/d.

Non-OPEC ex-US production: -2 million b/d.

Net: -6.4 million b/d.

I don't know about you but in terms of margin of safety, this is a very large cushion. The key figure in all of this is demand growth, and so unless you expect the global economy to go into a recession for 8 years, we think the odds of demand going to 108 to 110 million b/d is highly plausible.

As you can see, the odds are heavily skewed to a structural oil market deficit on the horizon. You can slice and dice this analysis however you like, but the result is the same. We are headed for a structural oil supply shortage. And with Russia already seeing a peak in oil production prior to this Ukraine invasion, the existing decline will only get worse.

If you need time to tell yourself that we are still only in the 2nd inning, please do so now. As you can see, once the deficit gets rolling, only demand destruction can balance the market.

Disclosure: I/we have no stock, option or similar derivative position in any of the companies mentioned, and no plans to initiate any such positions within the next 72 hours.