Crude oil prices may have cooled from their recent highs as geopolitical tensions begin to ease, but a return to pre-conflict levels is still unlikely in the near term, according to Probal Sen from ICICI Securities. While markets have welcomed signs of progress in peace negotiations, uncertainty surrounding the final outcome means oil is likely to retain a risk premium.
Sen believes the market has already priced in some of the optimism. However, shipping disruptions, elevated insurance costs and higher freight charges could continue to keep crude prices in a relatively higher trading band over the coming months.
Speaking about the outlook for crude, Sen said, "What levels crude could see, it really depends on what kind of financial positions are being unwound. It is still difficult to peg a number in terms of what kind of shorts are being unwound or have been unwound over the last three sessions since the deal was actually announced. But very clearly, the trend seems to be downward."
He added, "Our sense really is that once the frenzy or some sort of stability is reached in terms of the deal actually coming through or the negotiations seemingly progressing, crude can then start to show some moderation in terms of volatility."
According to Sen, a complete normalisation of shipping flows and the removal of insurance and freight-related risk premiums will take time.
"We still believe, based on every report that we read, that full normalisation of shipping flows and a full retreat of the kind of risk premium that has got built into insurance and freight in the crude markets will probably still take a little bit of time to play through. Therefore, we do not expect a return to pre-conflict levels of below $70, or at least even if it does, we do not expect it to stay there," he said.
He expects crude to remain within a higher trading range until greater clarity emerges on the peace process.
"Our sense really is that while crude will moderate, you would probably see a band of $75 to $80 as a reasonable level till the time the 60-day period goes away and a final deal is actually signed. Then we can assess how much flows and how quickly the shipping flows are back to pre-conflict levels," Sen said.
He also cautioned that markets may still witness fresh volatility as uncertainty surrounding the agreement remains.
"There is a little bit of excitement that is probably baked in already in terms of numbers, particularly crude prices, and we believe that some correction upwards can actually still happen as we progress on this deal because there is still a lot of uncertainty around what the final deal would take. There are players who are excluded from the MoU negotiations who have constantly said that they do not believe they are part of this peace agreement and they do not feel obligated to honour the ceasefire. So, it is difficult to draw a conclusive answer on where crude will end up," he said.
On oil marketing companies, Sen believes the recent recovery in retail fuel margins is yet to be fully reflected in share prices.
"No, in OMCs, there is probably still a little bit of..., in fact, the re-rating is something that will continue to build. We have seen that retail margins in the last couple of weeks, or at least over the last three to four days, have swung back into, let us say, break-even territory. Depending on what prices you assume, they are probably even making some element of positive margins as well," he said.
While the June quarter could remain weak, Sen expects earnings to improve in the remainder of the financial year.
"I think that is not something that is fully baked into the stock prices at this point in time. Our sense really is that 1Q numbers will still probably be disappointing. You could probably see some pushback or some cutback in the prices. Post that, again, assuming that the deal continues to progress the way it is going, you can probably see a significant turnaround in the earnings performance of the OMCs over the rest of the year, and that upgrade will bring with it its own momentum in the stocks," he said.
Speaking about upstream companies, Sen noted that softer crude prices have weighed on their recent performance.
"As far as upstream is concerned, upstream has actually reacted negatively. If you really look at the last one-month performance, the expectation of a deal being struck and the softness in crude probably has reversed a little bit of gains, specifically in Oil India," he said.
However, he believes lower crude prices could reduce the possibility of windfall taxes and support earnings upgrades.
"As and when clarity emerges on what is the bare minimum or the base of crude prices, one can probably then start to draw conclusions on where FY27 earnings would look like. One thing that I would like to highlight is that the softer and more positive expectations get baked into crude prices, the chances of any sort of windfall taxes or any sort of measures to curtail upstream realisations will basically recede. That means FY27 earnings can actually still see upgrades as far as we are concerned, so that is something to look forward to," he added.
Turning to city gas distribution companies, Sen said lower gas procurement costs could significantly improve margins.
"The very simple sensitivity that I can give you is that every $1 change in weighted average gas costs for each of these companies has an impact of around Rs 2 to Rs 3.5 per SCM in terms of their per-unit EBITDA, which is a significant number when you consider that the base case itself—and I can only speak for myself—our base case is basically anywhere between Rs 5.5 to Rs 6.2-6.3 per SCM for the three companies," he said.
He added that lower LNG prices would be a major positive for the sector.
"Any reduction or moderation in LNG prices, which leads to a lower weighted average cost of gas for these companies, will be extremely positive from a margin perspective," he said.
However, Gujarat Gas could face competitive pressure if LPG prices decline meaningfully.
"For Gujarat Gas, the situation can turn slightly tricky if propane availability once again starts to pick up... if LPG prices were to come back or settle at $650 a tonne, the rupee equivalent price would be close to Rs 52-53, whereas the price being charged today in the Morbi region is close to Rs 77 per SCM. There, one will have to see what the equation is between volumes and margins. For IGL and MGL, really, gas availability would improve margins," Sen said.
On the broader outlook for city gas distributors, Sen believes recent policy reforms will help accelerate gas penetration across the country.
"Yes, as I said, the new regulations that came through in this crisis by the government have made it easier and have created time-bound conditions for approval of ROUs and final permissions for connectivity of customers in the CGD networks. That is bound to provide momentum in terms of higher penetration."
He concluded, "The more we diversify or improve penetration of natural gas, specifically in the domestic and transport sectors, the more it reduces dependency on LPG as well as on petrol and diesel. So that is something that should continue to build momentum for all the CGD companies in the country."
