Crude Catches a Virus

We’re in one of those times when everything is a macro call. Stocks and sectors are, for now, more highly correlated, since Coronavirus developments are dominant. Click here for some cool graphics illustrating its spread. The recent recovery in stocks echoes the information on the link.

We won’t attempt to offer any insight on the virus, but have some observations on energy markets.

Recent reports suggest that China’s crude demand is down by around 20%, or 3 million barrels per day (MMB/D). OPEC is apparently considering temporary cuts of 0.5 MMB/D and could perhaps reduce by 1 MMB/D. That still leaves the market over-supplied by 2.0-2.5 MMB/D, although China’s imports should hold up relatively better as it builds strategic reserves.

Libya’s production has fallen by around 1 MMB/D, from 1.2MMB/D to just 0.2 MMB/D recently, because of the ongoing civil war there. However, they are holding peace talks and a cease-fire agreement may be reached soon.

Before the Coronavirus hurt demand, we had thought U.S. shale output was likely to come in below expectations (see Why Oil Production May Disappoint).  Oil wells experience faster depletion than natural gas, which means that as shale production grows an ever increasing number of new wells is needed to compensate for the production drop-off experienced by older wells. We also noted the sharp drop in “DUCs” (Drilled but not yet Completed), which become the source of future production when they’re completed.

Schlumberger, the world’s largest oil field services company, recently announced plans to pull back from shale oil because they see so many E&P companies struggling to be profitable. In announcing results last month, CEO Olivier Le Peuch said, “North America revenue of $2.5 billion…dropped 14% sequentially due to customer budget exhaustion and cash flow constraints.”

Capital is clearly becoming constrained. Natural gas-dedicated E&P names such as Chesapeake and Range Resources have seen their stock fall 95% or more from peak levels more than five years ago. Even the biggest companies such as Exxon Mobil trade at historically low valuations.

The rig count has been sliding for some time amid weak crude oil prices and steadily sinking natural gas. The Coronavirus-driven sudden drop in crude prices is likely to cause a further pullback in the rig count drilling for shale oil, restraining production growth.

The caveat is increasing efficiency of production. The U.S. Energy Information Administration recently noted that oil and gas production grew in 2018 even while the number of wells in operation fell 10%. Doing more with less has been a hallmark of the Shale Revolution since its infancy. However, this reaches a limit as the least efficient rigs drilling the highest cost acreage are the first to be laid down, leaving the high-tech rigs in the sweet spots.

Depending on the length of economic disruption caused by the Coronavirus, supply may need to adjust. Low prices are the best cure for oversupply. Saudi Arabia has signaled they’re willing to cut production with OPEC to get the price of oil higher, and can maintain its lower production quotas after demand has recovered. U.S. activity demonstrates that shale oil growth was already moderating before recent developments. Meanwhile, many forecasts see the physical oil markets shifting to a multi-year deficit in the back half of 2020 and tension in the middle east remains elevated as the US continues its maximum pressure policy of sanctions on Iran.  With the many cross-currents, energy investors remain on the edge of their seats.

Print Friendly, PDF & Email

Important Disclosures

The information provided is for informational purposes only and investors should determine for themselves whether a particular service, security or product is suitable for their investment needs. The information contained herein is not complete, may not be current, is subject to change, and is subject to, and qualified in its entirety by, the more complete disclosures, risk factors and other terms that are contained in the disclosure, prospectus, and offering. Certain information herein has been obtained from third party sources and, although believed to be reliable, has not been independently verified and its accuracy or completeness cannot be guaranteed. No representation is made with respect to the accuracy,  completeness or timeliness of this information. Nothing provided on this site constitutes tax advice. Individuals should seek the advice of their own tax advisor for specific information regarding tax consequences of investments.  Investments in securities entail risk and are not suitable for all investors. This site is not a recommendation nor an offer to sell (or solicitation of an offer to buy) securities in the United States or in any other jurisdiction.

References to indexes and benchmarks are hypothetical illustrations of aggregate returns and do not reflect the performance of any actual investment. Investors cannot invest in an index and do not reflect the deduction of the advisor’s fees or other trading expenses. There can be no assurance that current investments will be profitable. Actual realized returns will depend on, among other factors, the value of assets and market conditions at the time of disposition, any related transaction costs, and the timing of the purchase. Indexes and benchmarks may not directly correlate or only partially relate to portfolios managed by SL Advisors as they have different underlying investments and may use different strategies or have different objectives than portfolios managed by SL Advisors (e.g. The Alerian index is a group MLP securities in the oil and gas industries. Portfolios may not include the same investments that are included in the Alerian Index. The S & P Index does not directly relate to investment strategies managed by SL Advisers.)

This site may contain forward-looking statements relating to the objectives, opportunities, and the future performance of the U.S. market generally. Forward-looking statements may be identified by the use of such words as; “believe,” “expect,” “anticipate,” “should,” “planned,” “estimated,” “potential” and other similar terms. Examples of forward-looking statements include, but are not limited to, estimates with respect to financial condition, results of operations, and success or lack of success of any particular investment strategy. All are subject to various factors, including, but not limited to general and local economic conditions, changing levels of competition within certain industries and markets, changes in interest rates, changes in legislation or regulation, and other economic, competitive, governmental, regulatory and technological factors affecting a portfolio’s operations that could cause actual results to differ materially from projected results. Such statements are forward-looking in nature and involves a number of known and unknown risks, uncertainties and other factors, and accordingly, actual results may differ materially from those reflected or contemplated in such forward-looking statements. Prospective investors are cautioned not to place undue reliance on any forward-looking statements or examples. None of SL Advisors LLC or any of its affiliates or principals nor any other individual or entity assumes any obligation to update any forward-looking statements as a result of new information, subsequent events or any other circumstances. All statements made herein speak only as of the date that they were made. r

Certain hyperlinks or referenced websites on the Site, if any, are for your convenience and forward you to third parties’ websites, which generally are recognized by their top level domain name. Any descriptions of, references to, or links to other products, publications or services does not constitute an endorsement, authorization, sponsorship by or affiliation with SL Advisors LLC with respect to any linked site or its sponsor, unless expressly stated by SL Advisors LLC. Any such information, products or sites have not necessarily been reviewed by SL Advisors LLC and are provided or maintained by third parties over whom SL Advisors LLC exercise no control. SL Advisors LLC expressly disclaim any responsibility for the content, the accuracy of the information, and/or quality of products or services provided by or advertised on these third-party sites.

All investment strategies have the potential for profit or loss. Different types of investments involve varying degrees of risk, and there can be no assurance that any specific investment will be suitable or profitable for a client’s investment portfolio.

Past performance of the American Energy Independence Index is not indicative of future returns.

Print Friendly, PDF & Email
0 replies

Leave a Reply

Want to join the discussion?
Feel free to contribute!

Leave a Reply

Your email address will not be published. Required fields are marked *

This site uses Akismet to reduce spam. Learn how your comment data is processed.