While still cautious, banks with substantial exposure to the energy sector struck more upbeat tones during the fourth quarter earnings season this month. Executives said a recovery in oil prices combined with an anticipated end to the pandemic could pave a path for stronger oil and gas revenue in 2021 and a substantial reduction in troubled loans.

Energy Credit

Over the course of the second and third quarters of 2020, banks active in energy lending set aside millions of dollars in reserves to cover souring loans, as energy companies struggled amid the demand shocks imposed by coronavirus outbreaks. Banks reported elevated levels of loan delinquencies in addition to charging off loans tied to companies that entered Chapter 11 bankruptcy.

Executives at Salt Lake City-based Zions Bancorp, said on the company’s recent earnings call that about 80% of charge-offs in the fourth quarter were tied to the Lower 48 energy sector. However, the level of troubled loans stabilized in the final months of 2020, and the bank is anticipating improvement this year.

“We still think there’s risk out there, and so we’ll be cautious” on new loans, said Zions CEO Harris Simmons. Still, “I think we’re growing increasingly optimistic” about existing borrowers’ ability to make loan payments.

Zions and other banks made their assessments based on fall 2020 redeterminations of energy loans, prevailing macroeconomic outlooks for the U.S. economy that call for growth of around 5% this year, and expectations that widespread vaccinations this spring could fuel a rebound in demand for transportation fuels.

Dallas-based Comerica Inc. chief credit officer Melinda Chausse said during an earnings call this month that loans to energy companies remain the most stressed component of the bank’s portfolio. However, the levels of troubled loans have “stabilized quite nicely” and “we may be through the worst of that.” With West Texas Intermediate oil prices hovering above $50/bbl this month, ”we feel pretty good about all these at-risk” borrowers.

The prospects for an end to the pandemic this year are mounting as vaccines become more available, analysts said, and oil demand in particular could jump when that happens. Demand for jet fuel and gasoline were under heavy pressure in 2020 and remain below pre-pandemic levels. However, should travel surge because of pent-up demand, oil prices could bounce. Stronger industrial activity could develop as well, fueling more demand for natural gas.

Analysts, however, are also careful to temper their optimism with a dose of caution.

“Now that actual shots are going into actual arms, the timing of vaccination is no longer a pure guess — though the path toward herd immunity and post-pandemic life will be long and difficult,” Raymond James & Associates Inc. analysts led by Pavel Molchanov said in a report this week.

Though travel trends will likely prove uneven and some regions of the world may struggle with outbreaks into the summer, the analysts said January most likely marked a bottom and travel-related demand could rise in the coming months, providing a tailwind for energy.

“We think the worldwide total of lockdowns will subside after January, with February better than January, and March better than February,” the Raymond James team said.

The Organization of the Petroleum Exporting Countries (OPEC) said earlier this month it expected global oil demand in 2021 to increase by 5.9 million b/d year/year and average 95.9 million b/d. The group estimated that 2020 demand dropped 9.8 million b/d from the prior year.

OPEC, however, cautioned that “uncertainties remain high going forward with the main downside risks being issues related to Covid-19 containment measures and the impact of the pandemic on consumer behavior.”

Beyond 2021 and the pandemic, U.S. companies reliant on fossil fuel production may face mounting regulatory pressure and fewer drilling opportunities. 

The Biden administration last week halted for two months new oil and gas drilling permits, as well as leases on federal onshore and offshore property. The president has signaled that he may follow such action as soon as Wednesday with more permanent measures as part of an effort to put the United States on a path to a carbon-free power sector by 2035 and a carbon-neutral economy by 2050.

Biden’s environmental policies could hamper energy sector earnings in years to come, banks also cautioned. Several banks said they remain committed to energy, but they do not plan to grow their oil and gas books significantly.

Some banks, however, said they see growth on the horizon. BOK Financial in Tulsa, for one, reduced its reserves to cover bad energy loans in the fourth quarter. It said oil and gas borrowers’ finances are mostly stable and many of its clients are poised for growth post-pandemic.

“If you think about oil…between $50 and $55, that is not a bad spot to be in, in terms of kind of being stable,” BOK financial Executive Vice President Stacy Kymes said on the earnings call this month. “And certainly, in the Permian Basin, that’s an area that people can continue to grow and do that profitably. From our perspective, this is a price area where, once we can find kind of a stable spot, then I think we can grow from here.”