June 2024 - Commentary from Dan Pickering

Blah. Energy indices were generally lower during June. The oil macro is grinding forward with mostly status quo dynamics.

Blah.  Energy indices were generally lower during June with Diversified Energy -1.7% (S&P 1500 Energy, S15ENRS) and subsector performance as follows: Midstream +4.5% (AMZ), Oilfield Services -1.6% (OIH), Upstream -3.8% (XOP) with Clean Energy bringing up the rear at -10.4% (ICLN).  The broader market had another strong month with the S&P500 +3.6% and the Nasdaq +6.0%.  On a YTD basis, weakness in the past few months has turned energy into a laggard vs. the market (+10.6% Diversified Energy, +15.3% S&P500).  During June, front month WTI rallied ~5.9% (~$81.55/bbl), while front month NYMEX natural gas ended +0.5% (~$2.60/mmbtu) after a brief rally over $3/mcf.(1)

The oil macro is grinding forward with mostly status quo dynamics.  There were three boogeymen of the 2014-2020 downturn.  US upstream shale players (adding dramatic supply to the global market), OPEC (pushing back against US shale market share gains), and covid (crushing demand).  All three of these boogeymen are currently well-behaved. Covid is conquered.  Capital discipline is firmly entrenched amongst US E&Ps who are returning 50%+ of free cash to shareholders, while perhaps growing 1-2% annually.  OPEC is price-focused and proving it with reduced production quotas.  We firmly believe OPEC’s shut-in capacity comes back only when the market needs their barrels.  Meanwhile, global economies have avoided a recession, there is a growing realization that decarbonization will take a very long time and hydrocarbon demand is edging higher.  This keeps oil supported in the low-$70s (which we saw in the late May/early June hiccup) but also keeps it from running away to the upside (plenty of incremental OPEC supply).  We could have this type of oil market for years.  Something to be celebrated and embraced – it will drive a highly profitable industry that will eventually be rewarded with increased investor attention.

Natural gas rallied during the month, spurred by some early summer heat and ongoing AI-centric demand enthusiasm.  But what this market gives, it can take away.  A 20% June rally to ~$3.10/mmbtu subsequently faded back to flattish.  The remainder of 2024 and into early 2025 feels like a tug-of-war between a bullish forward outlook (LNG + datacenters) and the reality of ample supply.  The return of shut-in production and delayed well completions will cap near-term price rallies.  Hopium will keep things from getting too ugly.

Q2 earnings season will consume most of July.  The macro typically gets set aside as investors focus on company-specific datapoints. We are watching E&P results for any signals on 2024 spending.  There are hints that continued drilling efficiencies are resulting in some operators spending budgets faster than expected, perhaps foreshadowing soft Q4 activity.  If true, not great for oilfield services, a sector where we are already lukewarm. With soft crack spreads in June, refiner Q2 estimates are coming down by 10-30%, perhaps setting up an opportunity in that subsector.  Clean energy remains a cash-burning minefield amidst a secular growth backdrop.  We are spending most of our time looking for unique stories in Upstream, while also being poised to opportunistically pounce on situations where the market gets overly negative for one reason or another. EQT’s dip on their midstream acquisition (Equitrans, ETRN) as an example.

Apropos of The Year of the Deal, June brought several.  Noble Energy (stock symbol NE) bought Diamond Offshore (DO) to further consolidate the offshore drilling market.  Permian E&P Matador Resources (MTDR) purchased private equity-owned Ameredev for a bolt-on in the Delaware Basin.  SM Energy (SM) also announced the acquisition of Uinta Basin private XCL Resources.  These three deals were relatively small (under $3B), but the drumbeat continues.

(1) Source: Bloomberg