Crude oil could cost over $150 a barrel if conflict in the Middle East intensifies, according to the World Bank’s recent warning. Brent crude (which we’ll use as the benchmark through this feature) last hit those sorts of elevated levels in the summer of 2008, when per barrel prices went close to $147. That was just before irresponsible bank lending blew a massive hole in the global economy, triggering a worldwide financial crisis of epic proportions.

Now, the World Bank’s economists are predicting the possibility that oil could surge even higher, particularly if conflict in the Middle East escalates into full-blown war, roping in other players, such as Iran. But before anyone panics, this is the World Bank’s worst-case scenario, not the most likely outcome, and analysts largely believe that oil prices are not about to go ballistic, and that the war in Gaza will remain relatively contained.

This seems to be what financial markets currently envisage, with oil’s war premium eroded since the first Hamas attack on 7 October – Brent crude traded at about $86 before the Hamas attack and is currently priced (at time of writing) at $87.32. Short-term demand prospects amid heightened recessionary threats have also acted as an anchor to prices.

Recent suggestions from Saudi Arabia and Russia that they will persist with supply cuts are pulling crude in the other direction.

IMPACT OF HUGE DISRUPTION

Whatever the scenario, the global economy and investors are already seeing the effects of massive global disruption. The World Bank had expected the tepid global economy to drag on oil by about 4% next year, with oil prices dipping to around $81 a barrel from this quarter’s $90 projection. But the longer conflict in the Middle East continues, the more volatile energy and food prices may be.

European gas prices have already picked up this month, with investors concerned that supply may get scarce. This is not unusual for this time of year, however, as nations stockpile gas supply ahead of the high-demand winter months.

Big oil company executives might be quietly happy about the prospect of bloated oil and gas prices but energy is a key cost for every business, and you can bet that price spikes, and the increased operating costs felt by businesses, will impact the prices of everyday goods and services across the board.

This would reenergise inflationary heat and potentially lead to even higher for even longer interest rates, the very opposite of what the withering global economy needs.

Strong energy prices are, in part at least, why we’re seeing the start of a new merger mania among the world’s biggest energy companies. In the past few weeks, oil majors Exxon Mobil (XOM:NYSE) and Chevron (CVX:NYSE) have pulled the trigger on hefty acquisitions, ending a decades-long M&A drought, underpinned by the belief that the world will still rely on oil for years to come.

In early October, Exxon announced that it is buying smaller firm Pioneer Natural Resources (PXD:NYSE) for just shy of $60 billion in an all-stock deal, the energy titan’s biggest since it merged with Mobil in 1999. Just days later, Chevron unveiled its own rough $55 billion all-share acquisition of Hess (HES:NYSE).

Acquisitions on this scale are complicated enough so investors might wonder why now given the industry disruption. Yet experts say it is precisely this uncertainly that makes doing these deals timely, and perhaps savvy.

Both acquisitions are designed to make the massive companies more flexible by enlisting smaller, local resources, allowing them to react faster when the volatile market shifts. So instead of spending years building a stake in North Dakota’s Bakken Formation, or in Guyana’s offshore oil fields, for example, Chevron can affordably add those operations (and earnings) to its business overnight.

MAKING SENSE OF ALL-SHARE DEALS

Using stock to fund these deals also makes some sense. Both Exxon and Chevron are both hugely cash rich – at the end of 2022 they had roughly $30 billion and $18 billion of net cash respectively on the books. But higher interest rates have seen borrowing costs soar to their highest in a generation, so executives seem to have concluded that it’s better to leave those substantial cash piles on deposit, earning huge interest income.

The flip side to that is equity dilution. US oil firms have outpaced their European counterparts in recent years as they have largely resisted the clamour to invest in green energy solutions with less proven returns than those from hydrocarbons. This means their paper is more valuable when it comes to pursuing M&A, but there is some concern these deals are being struck at the top of the cycle.

So, who’s next? Could the UK-listed oil majors BP (BP.) and Shell (SHEL) become M&A targets? That’s not a simple question to answer and it will depend on multiple factors, such as asset quality and lifespan, geographic positioning, and of course, valuation.

Chaos has surrounded BP in recent weeks, which may make it more susceptible to a takeover. Plenty of shareholders will hope so after a decade of annualised 4.5% total returns (share price plus dividend income), worse than that of the FTSE 100 (4.94%).

Lacklustre third quarter results did nothing to lift a mood which darkened following the sudden resignation in September of chief executive Bernard Looney following a scandal, a departure that throws corporate strategy into doubt.

This has helped reheat rumours of a combination between BP and Shell. Long speculated, this fantasy deal has never looked close to coming to fruition but it might be easier to swing than a foreign buyer emerging for BP, something the Government and regulators in this country may be minded to resist.

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