Oil prices have vaulted to multi-year highs after OPEC and other major producers opted last week against increasing output by more than previously agreed. However, it’s the natural gas trajectory that has been hogging the limelight after gas prices surged more than 300% to trade at its highest levels since 2014, outpacing oil and many other commodities.

With the global energy market remaining on fire, natural gas prices are increasingly impacting crude oil as well, with consumers looking for cheaper fuels to substitute. Indeed, a major anomaly has now emerged: Power producers are doing an about-face by switching from costly natural gas to oil, a reversal from the decade-long trend of transitioning from costly oil to cheaper and cleaner natural gas.

It’s a budding but rapidly growing trend that could boost global crude demand by a good 2 million b/d in the space of just a few years.

Gas trading at the equivalent of $200 per barrel of oil

Gas demand in Europe and Asia, particularly from China, has remained heightened this year due to adverse weather and also as economies emerge from lockdowns. Natural gas markets have lately been energized by expectations of rebounding demand in the looming northern hemisphere winter as insufficient levels of inventories ahead of the winter season have been driving a spike in natural gas prices.

The natural gas rally started in Europe several months ago but has been spreading like wildfire to the rest of the world.

To put the current elevated prices into perspective, experts are saying that gas prices are now trading at the equivalent of more than $200 per barrel of oil, with Europe and Asia the hardest hit, making oil look dirt-cheap in comparison despite its own impressive rally.

German power prices for 2022 delivery have surged to €120/MWh, more than 3X the average seen during the previous five years while the price of Dutch TTF first month gas has shot up to nearly €85/MWh or $29/MMBtu or more than 5X higher than the five-year average. Meanwhile, U.S. traded natural gas prices recently surged to a seven-year high at $6.25/MMBtu.

Market experts are now warning that runaway gas prices are likely to ratchet up demand for crude by encouraging gas-to-oil switching and exacerbate the current supply deficit in the oil markets.

A combination of supply shortages and lower-than-expected power generation from renewables is forcing utilities to increasingly turn to natural gas and coal in order to maintain the required baseload across the electrical grid.

“This has never happened before at such a global scale. The market has always tried to substitute from costly oil to much cheaper natural gas,” Bjarne Schieldrop, chief SEB commodities analyst, has told Reuters.

The magnitude and speed of the switch varies among energy experts.

Schieldrop has put the demand boost at 500,000 b/d, similar to Saudi Aramco CEO Amin Nasser’s estimate.

JP Morgan has put the potential boost in oil-fired power generation by power generators switching to oil as high as 2 million bpd but says 750,000 b/d by March is more realistic.

Meanwhile, the normally conservative International Energy Agency (IEA) has placed the demand bump at a more modest 200,000 b/d and says the switch will be more rampant in Indonesia, Pakistan, the Middle Eastern states and Bangladesh.

No longer business as usual

It’s no longer business as usual in the oil markets, and the old saying that the best cure for high prices is high prices is unlikely to work.

The big difference this time around is that the focus on ESG and green transformation has reached a fever pitch and effectively curtailed producers’ normal long-cycle capex response to surging prices and rising demand i.e., boosting production. Without such a quick response from producers, it appears that the only path is to leave the markets to their own devices until prices reach a level where they trigger demand destruction.

But with the likes of JP Morgan recently saying that the economy can handle $150 oil, other analysts saying hyperinflation will see oil prices hit $180/barrel by the end of 2022 and OPEC+ clearly willing to defend higher prices, it will be interesting to see how far this oil bull will run.