May 2024 - Commentary from Dan Pickering

Treading water. Energy stocks generally lost the investor mindshare battle to technology during May. However, capital markets are not completely closed to energy.

Treading water.  Energy indices eked out small gains/small losses during May with Diversified Energy −0.1% (S&P 1500 Energy, S15ENRS) and subsector performance as follows: Oilfield Services +2.7% (OIH), Upstream +0.4% (XOP) and Midstream +0.1% (AMZ).  Clean Energy (ICLN) was a notable standout at +13.2%, but still −3.9% YTD.  The broader market enjoyed a nice tech-driven rally with the S&P500 +5.0% and the Nasdaq +7.0%.  YTD, energy still maintains a slight lead over the broader market indices.  During May, front month WTI oil fell −6.0% (~$77/bbl), while front month NYMEX natural gas surged +30% (~$2.60/mmbtu).(1) 

Crude oil markets softened somewhat during May, continuing relatively rangebound trading. There were no major developments in global conflicts (Israel/Hamas and Russia/Ukraine). OPEC’s early June quarterly meeting moved from Vienna to Zoom to a last-minute decision for some countries to convene in-person in Riyadh, Saudi Arabia. Assuming OPEC+ would like to maintain $70-$90/bbl, the cartel’s choices were limited. Current global demand is not strong enough to accommodate meaningful incremental supply, resulting in a rollover of formal production cuts through 2025 (a nice upside surprise). Voluntary production restrictions were signaled to be relaxed moving into 2025, which the market took poorly. WTI crude fell −3.6% to~$73.20/bbl on the day following the meeting and is at ~$74.15/bbl as this note goes to print. We suspect US upstream capital discipline will hold indefinitely, allowing demand growth to provide gradual headroom fora slow return of OPEC barrels in the 2025-2027 time frame. Our forecast remains $80/bbl WTI through 2027.

Natural gas got a tasty 30% bounce during May. We can feel the trading tension between directional positives (such as future demand from AI datacenters and LNG project start-ups) and the reality of current high inventories and likely LNG project delays. During May, the Exxon/Qatar Golden Pass LNG project had another setback as main contractor Zachary declared bankruptcy. The project owners remain committed, but we suspect a further timing pushback to 2H 2025 is inevitable. This makes us nervous about the trajectory of gas sentiment over the next few quarters.

The Year of Deal lived up to its nickname during May with announcements on Marathon Oil (stock symbol MRO) being acquired by Conoco (COP), Cresent Energy (CRGY) acquiring Silverbow (SBOW) and Energy Transfer (ET) doing a $3.3B Permian pipeline acquisition. Inventory, size, scope and value remain the four key drivers of the merger game. With almost every large cap player now involved in an acquisition (Chevron-Hess, Conoco-Marathon, Oxy-CrownRock, Diamondback-Endeavor), we suspect 2H 2024 merger activity moves into the small and midcap arena. Notably, Exxon has closed its deal for Pioneer, so they could theoretically be back in the hunt. Looking into 2025, it isn’t outside the realm of possibility that really big transactions come into focus. One of the majors for Conoco or EOG or Diamondback. There are many permutations, but prior merger waves created the “majors” we know today (Exxon-Mobil, Chevron-Texaco, BP-Amoco-Arco). Could bigger majors or even a new major be in the cards?!

Generally missed in the COP+MRO transaction was the substantial boost to Conoco’s shareholder return program. Conoco took its dividend up +34%, while forecasting the company can still be in the top quartile of S&P500 dividend growth in the future. COP also bumped its near-term share repurchase program by +40% from $5B to $7B. These are confident actions taken by a company with comfort in 1) the resilience of their own specific projects/future cash flows, 2) the visibility of the energy macro and 3) the visibility of future hydrocarbon demand. Free cash is flowing and will keep flowing. While many investors have turned deaf ears to this dynamic, this particular company is shouting from the rooftops about the quality of its business and outlook. Characteristics shared by many other players in the industry.

Energy stocks generally lost the investor mindshare battle to technology during May. However, capital markets are not completely closed to energy. During May, private equity sponsors were successful with follow-on offerings at Permian Resources (PR), Civitas (CIVI) and Magnolia Oil & Gas (MGY). In early June, Aramco, the world’s largest oil company, launched an oversubscribed secondary offering of $12B. Ironically, while portfolio managers don’t seem to be looking at energy stocks on a day-to-day basis, when presented with a catalyst (such as an offering), they are engaging. Clean energy had a nice May bounce. It remains to be seen if this is sustainable or just a sympathy move alongside technology. We remain mostly in observation mode on clean energy stocks and generally constructive on investment in conventional oil and gas.

(1) Source: Bloomberg