Oil market is 'shooting first and asking questions later', says TD Cowen's Jason Gabelman

Key Concepts

• Strait of Hormuz: A critical maritime chokepoint for global oil transit.
• Geopolitical Risk Premium: The additional cost added to oil prices due to the threat of conflict or supply disruption.
• IOCs (International Oil Companies): Large, publicly traded oil and gas companies with global operations.
• Midstream/Refiners: Companies involved in the transportation, storage, and processing of crude oil into finished products like diesel and gasoline.
• WTI (West Texas Intermediate): A primary benchmark for oil pricing in the United States.
• Crack Spreads: The difference between the purchase price of crude oil and the selling price of finished petroleum products (a key profitability metric for refiners).

1. Economic Impact and Restoration Costs

The conflict in the Middle East has caused significant damage to energy infrastructure. According to Rystad Energy, the cost to repair energy-linked infrastructure is estimated between $34 billion and $58 billion.

The timeline for restoring full production remains a point of contention among experts:

• Kuwait Petroleum Corporation CEO: Estimates full production restoration within 3 to 4 months.
• International Energy Agency (IEA) Chief: Warns it could take up to two years to restore a meaningful share of lost energy production.

2. Market Reaction and Analysis

The market experienced an 11% pullback in oil prices, which Jason Gabelman (Managing Director at TD Cowen) characterizes as a "knee-jerk reaction" where the market is "shooting first and asking questions later."

• Uncertainty at the Strait: Despite news of potential de-escalation, Iran continues to mandate that ships receive approval from the IRGC (Islamic Revolutionary Guard Corps) to transit the Strait of Hormuz. It remains unclear if the recent market news will actually result in increased shipping volume through the region.
• Equity Valuation: Prior to the conflict, investors were pricing WTI at approximately $60/barrel. Following the conflict, the market has adjusted to price in closer to $70/barrel, which Gabelman suggests is a more accurate reflection of the current risk environment.

3. Strategic Framework: The "Choose Your Own Adventure" Scenarios

Gabelman outlines three potential paths for the conflict, noting that the global economy cannot sustain a prolonged closure of the Strait of Hormuz:

1. Tenuous Ceasefire: The most likely near-term outcome, though it may not immediately result in the full reopening of the Strait.
2. Permanent Peace: A scenario that would stabilize markets but is difficult to predict.
3. Conflict Continues: A scenario that would keep geopolitical risk premiums elevated.

Key Argument: Regardless of the specific scenario, Gabelman argues that medium-term oil price expectations should be reset higher. Even if the Strait reopens, global gas and diesel prices are expected to remain elevated, benefiting midstream players, integrated oils, and U.S. refiners.

4. Investment Outlook and Picks

Gabelman notes that even before the conflict, the energy market was shifting from an oversupplied state to a balanced or undersupplied state due to plateauing U.S. shale production and slowing non-OPEC output.

Recommended Picks:

• TotalEnergies (IOC): Favored for having the best return on capital employed over the past two years, high production growth, strong free cash flow, and a robust power business.
• Marathon Petroleum (MPC): Favored for its exposure to West Coast crack spreads, which have remained strong due to supply tightness in the Pacific Basin.
• Cheniere Energy: Favored for its exposure to global gas dynamics and the expectation of continued volatility in global gas markets.

Synthesis and Conclusion

The market's recent 11% pullback is viewed by analysts as an overreaction that ignores the structural shift toward a tighter global energy supply. While the immediate future of the Strait of Hormuz remains uncertain, the long-term outlook for energy prices is bullish. Investors are advised to focus on companies with strong operational efficiency and exposure to refined products (diesel/gas), as these sectors are best positioned to capitalize on the sustained geopolitical risk premium and the underlying supply-demand imbalance in the global energy market.