Global Energy - July Commentary

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Past performance does not predict future returns. 

Global energy equities performed reasonably over the first half of 2025, with lower oil and natural gas prices offset by continued strong cashflow and shareholder distributions from many companies in the sector. Here, we explore the key developments in energy markets and the fund over the period, and consider the outlook.

Review of 1H 2025

Over the first six months of 2025, we saw expectations develop of a looser oil market for the rest of the year than previously forecasted. The looser oil balance has been driven mainly by higher supply expectations from the OPEC+ group, who have accelerated their return to the market of oil that had been held back under OPEC’s quota system. Offsetting the looser balance, heightened geopolitical tensions in the Middle East have created volatility in prices, as the market considers the likelihood of disruption to supply, especially in Iran. The Brent spot oil price has fallen by 9% since the start of the year, while the 5-year forward Brent oil price has fallen by 2%.

Brent spot price vs 5-year forward price ($/bl) YTD

Source: Bloomberg; Guinness Global Investors; July 2025

Global oil demand growth for 2025 is estimated by the IEA to be 0.8m b/day (down from the 1.0m b/day forecast at the start of the year but in line with the 0.8m b/day growth seen in 2024) with the non-OECD up by 1.1m b/day and the OECD down by 0.3m b/day. The demand outlook has been impacted by geopolitical risks, especially the threat of tariffs from President Trump, where the outcome remains uncertain. Oil demand in 2025 of 103.9m b/day will be around 3.2m b/day above its pre COVID peak in 2019. Unlike previous years, China is not expected to be the dominant driver of demand growth and at only 0.2m b/day, China’s demand growth is in line with that expected from India, Other Asia and the Middle East.

When writing at the start of the year about the prospects for oil demand, we placed strong emphasis on the current affordability of oil as a driver of demand growth. Globally, we believe that oil remains a ‘good value’ commodity. Based on a Brent oil price of around $80/bl in 2025, we calculate that the world would spend around 2.7% of GDP on oil, below the 30-year average of around 3% and well below the 3.8% seen in 2010 when oil also averaged $80/bl. With oil trading in the mid $60s/bl at the time of writing, the world is currently paying closer to 2% of GDP for its oil, putting today’s oil amongst the cheapest of the last fifty years.

The world oil ‘bill’ as a percentage of world GDP

Source: Bloomberg; Guinness Global Investors, July 2025

On the supply side, forecasts for non-OPEC supply growth in 2025 have moderated by 0.4m b/day since the start of the year, with growth of 1.7m b/day shrinking to growth of 1.3m b/day. Nonetheless, the call on OPEC+ production for the year has stayed about flat, given the reduction in demand expectations. Since May, the OPEC+ group has been raising its quotas(by 0.4m b/day each month for May, June and July and then a further 0.55m b/day for August) with further increases expected for September. It is evident that core members of the group (e.g. Saudi and Kuwait) are attempting to bring overproducers into line (e.g. Kazakhstan, Iraq), in addition to maintaining market share at non-OPEC’s expense. OPEC+ continued to stress that its supply strategy could be amended at any time, should market conditions require it.

Geopolitical concerns came to the fore in June with a sharp escalation of conflict in the Middle East. On June 13, Israel commenced a bombing campaign in Iran that targeted military sites and Iran’s nuclear enrichment programme. A week later, the US joined the campaign by bombing nuclear enrichment sites, in particular those out of reach of Israeli’s military. With US/Israeli/Iranian tensions still present, there is concern around the accessibility of the Strait of Hormuz, a 21-mile-wide stretch of water separating Iran from the UAE and Oman. Since typically around 20% of world oil supply passes through the Strait each day, any closure or impediment would bring significant disruption to the world oil balance. The current unrest also brings continued uncertainty around the US enforcing existing sanctions against Iranian oil exports, in contrast to the last 12 months when Iranian supply has been allowed to flow to China.

Elsewhere, the US announced the cancellation of a “concession agreement” in Venezuela that allowed Chevron to export oil from the country. The concession had been put in place by President Biden in November 2022 and, since then, Venezuelan oil production has increased from 0.7m b/day to nearly 1.0m b/day. Seaborne crude oil exports are already falling and we expect further declines in coming months.

International and US natural gas markets have remained fairly tight so far this year, thanks largely to industrial, LNG and power demand for natural gas together with colder than normal conditions (the US suffered the coldest January in a decade). US natural gas inventories drew to 9% below 10-year average levels as the first phase of the Plaquemines LNG terminal commenced operation, consuming 2 Bcf/day of natural gas (nearly 2% of total US gas demand) and helping to lift the Henry Hub gas price to over $4/mcf at the end of March. Milder weather has allowed inventories to rebuild since then, with the price moderating to around $3.5/mcf by the end of June.

Similar tightening occurred in Europe where a combination of reduced Russian gas imports, colder weather, lower wind power and increased competition from Asia for LNG brought the largest winter drawdown in gas inventories in four years (falling to 33% full, 8 percentage points below the 10-year average level). By June, inventories were a little looser, but still below the long-term average. Inventory movements so far in 2025 have been in sharp contrast to the prior 24-month period during which Europe had been successful in building a surplus of natural gas in storage. International gas prices spiked briefly in June over concerns that LNG flows would be interrupted by Iran/Israel/US tensions.

Global natural gas prices (US$/mcf)

Source: Bloomberg; Guinness Global Investors, July 2025

Past performance does not predict future returns.

• The first half of 2025 saw reasonable performance for energy equities. The sector (MSCI World Energy Index net return in USD) returned +4.6%, behind the broad market (MSCI World +9.5%). The Guinness Global Energy Fund produced a total return of +5.3% (in USD).

In company and sector news during the first half of the year, the most interesting developments included:

• A reset from European majors (especially BP and Shell) away from low-carbon investments and towards growth in fossil fuel.
• An attractive long-term outlook for LNG demand.
• Continued efficiency improvements in US shale oil drilling, thanks to enhanced drilling programmes, lower downhole loss time, and improved maintenance cycles.
• Ramp in natural gas distribution activities thanks in particular to data centre demand.

Within the Global Energy Fund over the period, stronger performers included:

• European integrateds: seven of the top 10 contributors were European integrateds, reflecting strength in broader European stock markets and a tilting away from low-carbon investments back towards growth from fossil fuels.
• Canadian integrateds: Canadian oil benchmarks strengthened versus WTI, boosting cashflows, while tensions in the Middle East provided a reminder of the energy security offered by Canadian oil supply.
• US refining: tighter refining capacity kept refining margins higher. Particular beneficiaries included Valero Energy and the US major Exxon.

Sectors in the portfolio that were relatively weaker over the period included:

• Services: Large-cap diversified service companies Halliburton, Schlumberger and Baker Hughes underperformed, driven by a declining US oil/gas rig count and continued capital discipline from exploration and production (E&P) companies and integrated oils.
• US E&Ps: Oil producers such as Devon, Diamondback and ConocoPhillips tend to have the greatest operational leverage in the portfolio to oil prices. With the spot Brent price down by 9% since the start of the year, cashflows for these companies have shrunk.

Guinness Global Energy Fund contribution 1H 2025

Source: Bloomberg, Guinness estimates; data to 30.06.2025

Outlook

As ever, the outcomes for spot oil prices in the short term are hard to predict. What is clearer is that the incentive price for new supply has risen to around $80/bl, which coincides with the ‘floor’ for oil which Saudi are looking to defend in the longer term. We see a disconnect between this longer-term floor and the oil price currently being reflected in energy equity valuations, which is closer to $65/bl.

The IEA now estimates oil demand growth for 2025 of 0.8m b/day (to 103.9m b/day) with the non-OECD up by 1.1m b/day and the OECD down by 0.3m b/day. This expectation is consistent with the IMF’s current global GDP growth forecast for 2025 of 2.8%. Unlike previous years, China (at +0.2m b/day) will not be a dominant driver of demand growth, with India and the Middle East expected to grow by at least as much. The IEA has recently published its first forecast for global oil demand in 2026, up by 0.7m b/day versus 2025 and taking demand to 104.6m b/day. As in 2025, all of the growth comes from the non-OECD region. Looking still further ahead, even with electric vehicles approaching 25% sales penetration this year, we continue to see global oil demand growing until around 2030, reaching a peak of somewhere between 107-109m b/day, and plateauing thereafter.

OPEC+ continues to be led by Saudi, who are seeking to balance the market but also maintain market share. We see Saudi as a rational and intelligent operator in the oil market, targeting an oil price that closes their fiscal deficit (according to the IMF, they require $91/bl to break even this year), but one that does not stress the world economy. Saudi’s sweet spot for oil, therefore, appears to be in the $80-90/bl range. Defending an $80 oil price in 2025 would be broadly the same in real terms as the group’s actions in 2006-2008 when they defended a nominal price of around $60/bl. The OPEC+ group are increasing their supply quotas over the summer by around 0.4m b/day per month, unwinding 2.2m b/day of voluntary cuts by key members. The main wildcard within the OPEC+ group remains Iran. Iranian oil exports are currently being allowed to flow to China, but this could reverse if tensions with US/Israel re-escalate.

Non-OPEC+ oil supply growth will continue to come through over the next few months, with Brazil, Guyana and Canada likely to be the largest contributors. US shale production growth has slowed this year, with the drilling rig count reduced since January by 11%. Nevertheless, US shale supply is still expected to increase by around 0.3m b/day, down from 0.4m b/day in 2024. Overall, in the US, capital discipline and lower prices are trumping efforts from the new president to increase supply growth.

For international natural gas markets, the reduced flow of Russian gas into Europe continues to pose a challenge. Gas in storage in Europe sits today at around 80% of the 10-year average. Global demand for LNG has risen in recent months, meaning it is more difficult for Europe to attract LNG cargoes than 12 months ago. Overall, an international price range of $9-11/mcf incentivises new US and Qatari LNG supply sources to flow, allowing Europe to displace permanently almost all its Russian gas imports. In the US, Henry Hub gas is seeing a demand boost this year from the start of those LNG export terminals. We remain cautious, however, about a material price spike, given supply at around $4/mcf remains abundant.

Moves in energy equities so far this year have lifted the price-to-book (P/B) ratio for the energy sector at the end of June 2025 to around 1.7x, versus the S&P 500 trading at 5.2x. On a relative P/B basis versus the S&P500, therefore, the valuation of energy equities now sits at around 0.32x (down from 0.37x at the end of June 2024), and still more than two standard deviations below the long-term relationship.

P/B of energy sector versus S&P 500

Sources: Bernstein; Bloomberg; Guinness Global Investors, July 2025

We keep a close eye on the relationship between the P/B ratio for the energy sector and return on capital employed (ROCE), which historically shows high correlation.

ROCE for the Guinness Global Energy portfolio in 2025 (assuming an average Brent oil price of $70/bl) will be around 9%, we think, a little below mid-cycle ROCE, which we peg at around 11%. However, current valuation implies that the ROCE of our companies will stay at about 4-5%. If ROCE remains at around 9-10% and the market were to pay for it sustainably, it would imply an increase in the equity valuation of around 30-35%:

Sources: Bernstein; Bloomberg; Guinness Global Investors, inc. estimates; July 2025

The higher ROCE is being supported by robust free cash generation. Assuming an average Brent oil price of $70/bl in 2025, we estimate the average free cashflow yield of our portfolio, after capital expenditure, to be around 8.4% and note that the 2025 estimated gross dividend yield of the portfolio currently sits at around 4.8%. Fixed dividends in the portfolio have generally been growing, and have ample room to run further, given the high free cashflow yield. At our long-term oil price assumption of $80/bl, the average free cashflow yield rises to over 10%.

To consider valuation another way, we are often asked what oil price is implied in the portfolio, as a barometer of the expectation priced into the equities. At the end of June, we estimate that the valuation of our portfolio of energy equities reflected a long-term Brent/WTI oil price of around $65/bl. If the market were to price in a long-term oil price of $75/bl, on a one year forward view it would imply around 35% upside while there would be around 65% upside at a long-term oil price of $85/bl Brent (which is equivalent to $55 in 2007 prices):

Upside/downside for Guinness energy portfolio (1-year forward view)

Source: Guinness Global Investors, July 2025

In summary, at $70/bl Brent in 2025, our portfolio continues to trade at a significant valuation discount to the broader equity market, despite high shareholder return yields. We see good confidence that dividends can be maintained and supplemented by share buyback programmes, driven by a free cash flow yield of over 8% for the portfolio, which rises to over 10% at our long-term oil price assumption of $80/bl.

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