U.S. energy market facing unprecedented volatility: study

Jordan Smith
By Jordan Smith May 10th, 2018
For business

The energy market in the United States has been more volatile during recent years than at any other time since the 1950s. That’s the key message from a study published in Nature Energy that looked at energy market shifts between 1952 and 2014.

Carnegie Mellon University researchers found that from 2005 to 2014, nine extreme price changes took place in the energy market. This compares to just seven from 1975 to 2004. Market variables considered included the price, production, and use of oil, gas and coal as well as electricity prices and transportation fuels. In total, 17 categories were examined.

Global volatility

Increased unpredictability has characterized the energy market worldwide over the past decade. Beginning with the 2008 financial crisis, which had a major impact on energy use and prices, analysts have found it challenging to assess future developments.

On top of financial instability, sharp geopolitical tensions in many of the world’s most important energy-producing regions, like the Middle East and Caucasus, have further complicated matters.

One of the largest shifts in the energy market in recent years came in 2014 with the dramatic collapse of oil prices. Within a few months, oil declined rapidly from over $100 per barrel to around $30.

A survey by the World Energy Council published shortly after the price drop in early 2015 identified market volatility as “the number-one issue” for energy executives and policymakers.

“High price volatility has become the new normal facing energy leaders,” Christoph Frei, Secretary-General of the World Energy Council, said at the time. “This is the context in which we expect them to take investment decisions at an unprecedented scale. The unprecedented uncertainty, the need to redefine infrastructure resilience in response to emerging risks, the expectation of changing market designs and evolving business models, as well as the changing geopolitical balance have all placed energy among the top strategic issues globally for at least the next decade.”

Fracking and natural gas

Although international factors have affected the U.S. market, perhaps the most significant cause of the nation’s energy market volatility during the past decade is the fracking boom. Production of oil and natural gas has exploded, outperforming predictions and leading to a drop in energy prices.

Another period of rapid growth appears set to take place. The International Energy Agency (IEA) forecasts that expanded U.S. oil production, mostly thanks to fracking, will cover 80 percent of new global demand for oil in the next three years.

Even so, some observers predict that the oversupply produced by the initial fracking boom will continue to decline in the coming period. This won’t necessarily mean a drop in price volatility, however.

According to Meghan O’Sullivan, the Jeane Kirkpatrick professor of the practice of international affairs at Harvard, the rebalancing of the market will cause prices to be even more susceptible to geopolitical crises.

“[I]f trends continue the oil supply overhang that has existed for several years will shrink,” O’Sullivan said. “When oil supply and demand are more balanced, there will be less of a supply cushion to absorb any supply disruption that results from geopolitical events.”

Managing volatility

While the expansion of fracking may offer a mechanism for producers to respond more swiftly to market volatility, analysts agree other ways must be identified to cope with sharp shifts in prices and production levels.

According to the Carnegie Mellon study, investors and energy companies can learn a lot about how to respond to price swings by looking back.

“Understanding the historical changes in the projected and actual values of key energy quantities can help decision-makers create robust strategies for a deeply uncertain future,” the researchers said. They also stressed that their analysis should act as a “stark reminder” of the importance of considering “the possibility of further surprises when planning for the future.”

On top of traditional sources of energy, investors must also consider the impact of moving towards clean energy sources, such as solar, wind and tidal power. While these rapidly growing sources offer the prospect of cutting carbon emissions, they’re also causing changes in the energy market that may lead to uncertainty over prices.

A final factor worth noting is the effects of government policy both in the U.S. and internationally. Disputes over whether to support the renewable energy sector with subsidies or other incentives, or to continue financial assistance to fossil fuel companies, add yet another source of potential price uncertainty.

Jordan Smith is an freelance journalist and translator covering issues related to energy, the environment, and politics. His work has appeared on the independent news site Opposing Views and at the Canadian Labour Institute.