As oil investors and consumers look to reduce their carbon footprint and producers seek to reduce emissions, growing demand for “low-carbon oil”—oil produced at a lower rate of greenhouse gas (GHG) emissions—could create a non-uniform shift in the global supply curve and impact oil pricing.
The global economy will remain dependent upon oil as a primary energy source for the foreseeable future. Despite wide-reaching and accelerating efforts to reduce GHG emissions, S&P Global Platts Analytics Future Energy Outlooks forecast global oil demand will plateau just below 115 million b/d in the latter half of the 2030s and first half of the 2040s.
Even in the Future Energy Outlooks 2-degree-Celsius scenario—which restricts global emissions to a level that would limit cumulative global temperature change to just 2 C from pre-industrial levels—global oil demand is still expected to slowly grow throughout this decade.
In the face of forecast oil demand growth, an increased global focus on environmental, social and governance factors is encouraging oil and gas market participants to produce, invest in, and trade energy sources with lower associated emissions.
Sixteen of the 20 largest international oil companies (IOCs) based in Europe and North America—representing 17 million b/d of crude oil production—have announced targets to reduce either their upstream emissions or overall operational emissions. The chart below displays these companies’ emissions reduction targets and target dates, with the icon size representing 2019 total oil production.
In addition to producers setting individual targets, some have formed associations aimed at collectively reducing emissions. In July 2020, the Oil and Gas Climate Initiative (OGCI)—a consortium of 12 member companies with combined crude oil output of approximately 25 million b/d—announced its target to reduce the collective carbon intensity of its upstream operations by 9% by 2025.
National, international, and company-level efforts to reduce GHG emissions in the oil and gas sector are clearly well under way, while global appetite for crude oil and its derived products continues to expand. The result of this combination of factors is a rapidly-increasing demand for low-carbon oil—oil that is produced at a lower rate of emissions.
The foundational metric necessary for market participants is carbon intensity—the ratio of carbon (or carbon-equivalent) emissions to unit of output. Applied to the upstream oil industry, carbon intensity refers to the quantity of emissions per barrel of oil produced (kg CO2 equivalent/barrel). Unlike carbon footprint—which measures a company or project’s absolute emissions—carbon intensity provides the measure of emissions on a per-barrel basis, enabling the market to normalize the upstream emissions efficiency of a particular barrel or particular operator. Carbon intensity can also be applied to different segments of the oil industry, including transportation, refining, and refined product consumption.
Oil production is a highly complex process involving dozens of phases and emissions sources which vary widely from field to field. However, the majority of GHG emissions created by the production process can be narrowed down to a handful of process dynamics.
The most significant of these are flaring and venting of natural gas, and energy required for onsite drilling and pumping, which is typically generated by hydrocarbon combustion. These processes alone account for approximately 70-80% of overall upstream emissions. Field-level data from the US Environmental Protection Agency (EPA) provides a look into the emissions sources at a handful of US fields, represented in the chart below.
Growing demand for low-carbon oil will result in significant impacts to various portions of the oil market including capital investment, supply, and price. Stakeholder calls for less carbon-intensive energy sources and investment opportunities have begun to translate into capital flows toward supply sources with lower carbon intensities and away from those with higher carbon intensities.
PetroChina announced plans to invest $1.5 billion annually over 2021-2025 in low-carbon emissions projects. The OGCI has established a $1 billion fund to “invest in technologies and projects that accelerate decarbonization in oil and gas, industry, and commercial transport.” Banks, sovereign wealth funds, and other sources of external capital have also declared intentions to this end as they look to reduce the carbon footprint of their portfolios while maintaining competitive returns.
As for upstream operators themselves, they will be forced to consider the carbon intensity and future associated costs when making their own development decisions.
Growing demand for low-carbon oil could create a non-uniform shift in the global supply curve. Depending on the levels at which buyers seek to offset the carbon emissions of their full cycle operations and producers take steps to directly reduce or offset the emissions associated with their upstream operations, the costs associated with these actions will likely be incorporated into production costs. Because actual production costs do not correlate with carbon intensity, the cost impact of incorporating carbon reduction efforts into production costs vary along the supply curve.
Finally, growing demand for low-carbon oil could impact the traded price of oil, particularly in terms of differentials between crude grades and lower-carbon varieties of the same grade of crude. The market could apply carbon intensity as an attribute of the crude, similar to the way it considers sulfur.
All else equal, sulfur devalues crude roughly in line with its prevalence in oil. Likewise, the market could come to devalue crude produced at a relatively high rate of emissions. As the market for low-carbon oil matures, prices will likely reflect the associated upstream carbon intensity, with crudes of lower carbon intensity trading at a premium to those of higher carbon intensity.
Platts Analytics is testing a series of models estimating field-level upstream carbon intensity, incorporating Platts’ datasets, as well as relevant public domain data. Our working models incorporate several metrics including crude gravity, reservoir age and depth, flared gas volumes, and in-situ steam generation. We have applied our primary working model to a pilot group of 50 oil fields of various natures and locations—a selection of the results are shown below.
Having established field-level upstream carbon intensity allows for more in-depth analysis of the implications. Such further analysis will include quantifying the differential between the price of a standard barrel (e.g. Brent, WTI) and the price of an offset—or upstream carbon-neutral—iteration of the same barrel.
The aforementioned impacts to the global supply curve will be quantifiable, as well, by incorporating the cost of offsetting emissions in the cost of production. In a market seeking low-carbon oil and limiting capital and market demand for high-carbon production, fields with high carbon intensity of production would see carbon-inclusive production costs rise.
As the low-carbon oil market develops in 2021 and Platts Analytics works with market participants to ensure provision of valuable data and insights, new features are likely to emerge in addition to the concepts highlighted above. We will be observing with anticipation as the first barrels trade with carbon intensity considered as an attribute, and a new era in the global oil market emerges.