The last four weeks have provided a welcome, albeit surprising, tailwind for Canada’s energy sector. Prices have risen, in part because of anticipation of the positive economic influences from the incoming US administration’s policy set and in part due to geopolitical developments. While this is welcome news for investors who have been worrying of late about the impact of potential US tariffs on Canada’s economy, extending the rally will be challenging over the remainder of the year.

 

Since the start of the year, the S&P/TSX capped energy index is up more than 4% to around 280. This is still below the highs seen back in October and November and well off the peak which was north of 300 in the spring of last year. The previous high was around 335 in 2014, and the risk-on sentiment that emerged out of the November election looked like it could propel both commodities and the energy patch towards that threshold in 2025.

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

If we are solely looking at the direction that crude oil will take, the news doesn’t look good despite the recent advance. Since the start of the year, WTI futures have rallied more than 10% and the latest push has come from a combination of new sanctions on Russian oil and a surprise draw in US crude inventories. Wednesday’s report showed that inventories had fallen last week to the lowest since 2022, even though there was an increase in gasoline and distillate inventories. OPEC also came out with a forecast showing the same pace of growth in oil demand this year as in 2024.

 

In contrast, the International Energy Information Administration (EIA) is projecting that global oil supply is going to exceed demand by over one million barrels per day in 2025, driven by increased production from countries such as the United States, Canada, and Brazil. Concurrently, global oil demand growth is expected to remain modest, with consumption reaching approximately 103.9 million barrels per day in 2025. Based on this, the EIA predicts a downward trend in crude oil prices, with Brent crude expected to average $74 per barrel in 2025, an 8% decrease from 2024, and further declining to $66 per barrel in 2026. This projection is primarily due to global production growth outpacing demand.

 

 

Geopolitical tensions, particularly in the Middle East, continue to pose risks of supply disruptions, potentially leading to price volatility. However, the market currently appears to be more influenced by supply-demand fundamentals than geopolitical uncertainties. Now, given that the incoming Trump administration will be more prone to creating chaos than resolving it, I would not dismiss the potential for geopolitical events to buttress crude prices.

 

In contrast to crude oil, the EIA anticipates that natural gas prices will nearly double, reaching $4 per million British thermal units by 2026. The U.S. is expected to see a rise in natural gas production, with projections indicating an increase to 13.5 million barrels per day in 2025. However, this is projected to be offset by an increase in demand, particularly as natural gas continues to replace coal in electricity generation. That generation is needed more than ever because of the build-out of AI and crypto infrastructure. Europe is also actively seeking to reduce its dependency on Russian gas by increasing imports from the U.S., but the expansion in U.S. liquefied natural gas (LNG) export capacity is anticipated to progress slowly due to infrastructure challenges and rising domestic power demand.

 

 

Coming back to the new administration, we know that one of Trump’s platforms was to achieve an increase in energy production in order to achieve true self-sufficiency. Considering that one of Canada’s possible retaliatory measures would be to restrict crude exports to the US (more than 4 million barrels per day), one would think that this objective is going to be strengthened. The bulk of Canadian crude ends up feeding American refineries and if Trump wants to get pump prices down, as he promised, then this source of oil is critical.

 

If crude prices stayed up in the $80 neighbourhood, then U.S. producers would have no problem pumping more out of the ground. Without a commensurate improvement in demand, this is going to be tough. Europe’s economy is still floundering, and China is a big question mark. Consensus forecasts towards the end of last year had the U.S. economy growing at a rate of 1.9% in 2025, down from an estimated 2.8% in 2024. If tariffs end up being less aggressive and if Q1 comes in strong, then we could see economists marking that 2025 growth forecast up.

Canada's economic outlook for 2025 appears more optimistic, with expectations of accelerated GDP growth in the first half of the year, but we are coming off a sub-par performance through much of 2024. The Bank of Canada is anticipated to reduce interest rates to 2.75% before we hit bottom, and the weaker Canadian dollar has provided a tailwind coming into 2025. Again, everything depends on what Trump does after Monday.

 

As for what we could see outside of North America, the European Union is expected to experience only a modest economic recovery in 2025, with growth rates around 1%. However, challenges such as industrial overcapacity and trade tensions with the U.S. may pose risks to this outlook. China's economic growth is projected to modestly decrease from 4.9% in 2024 to 4.8% in 2025, but this country is perhaps most at risk in terms of tariffs and it is not exactly kicking the year off in strong fashion.  

 

In my opinion, the demand factors for crude oil are only marginally more positive this year and while escalations in conflicts, particularly in the Middle East, could disrupt supply chains, leading to higher prices, I believe that oversupply risks are still more dominant. Under Trump, we are almost guaranteed to see increased production out of the U.S. while we continue to see technological advancements leading to improvements in energy efficiency and the adoption of alternative energy sources could decrease demand for fossil fuels, contributing to price corrections.

 

 

At the same time, the shift in electrical generation from coal to natural gas is set to continue as demand for electricity grows at a faster pace than oil consumption. This should support gas prices and that is why Ally and I maintain a tilt in the portfolio towards energy companies with a larger gas footprint and pipelines that stand to benefit from increased gas production and deliveries. Should we see crude oil prices falter in the coming months, the TSX energy group could see some pressure overall and that is why investors will need to be selective and not just play the sector.

 

 

On behalf of the Pyle Wealth Advisory team, have a wonderful weekend.

Andrew Pyle

 

 

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Andrew Pyle is an Investment Advisor with CIBC Wood Gundy in Peterborough. The views of Andrew Pyle do not necessarily reflect those of CIBC World Markets Inc.

 

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