U.S. Shale, This is Your Moment – Don’t Mess it Up!
The attacks on Saudi Arabian oil facilities and resulting geopolitical tensions have rightfully dominated global headlines lately, as the strikes took approximately 5% of global oil supply offline in the near-term. The extent of long-term oil price risk premiums and damage to market confidence in the Middle East as a secure energy supplier remain to be seen. The supply shock, coupled with the possibility of Iran as the culprit, makes for a perfect storm of economic and geopolitical fodder. As tweets fly and markets spike, U.S. shale producers could emerge as a clear winner.
As an energy industry lifer with 30 years as a petroleum engineer, industry analyst, mutual fund portfolio manager and Chief Investment Officer, I’ve seen plenty of oil market volatility. OPEC’s production cuts and chatter that the U.S. would re-impose sanctions on Iran led to prices over $70 per barrel during 2018 – only to see a drop below $45 by the end of the year. Modern horizontal drilling and completion technology unlocked previously unrecoverable reserves and created a boom to global oil supply not seen since the North Sea offshore renaissance of the 1980s. Unfortunately, shale’s rapid growth resulted in oversupply, persistently low prices and complacency amongst market participants and political players.
In the day following the strikes in Saudi Arabia, oil and energy equity markets rallied meaningfully, but only briefly, as inventories are sufficiently full to buffer temporary outages and dislocations. Additionally, with Saudi Aramco pursuing an IPO and $300mm+ of lost daily revenue to the Kingdom, the market believes Saudi Arabia will devote any and all necessary resources to bring barrels back online as soon as possible.
The volatility and unpredictability of the current market presents an opportunity for U.S. shale producers to land squarely in the winner’s circle. The world has been remarkably complacent about oil market supply disruption threats, shrugging off rising threats such as the recent tanker seizures in the Strait of Hormuz. Regardless of the speed at which supply is returned, the Saudi attack makes it much harder to ignore the fragility and vulnerability of Middle Eastern oil supply. Despite providing one-third of global oil supply, economic decisions in the Middle East often take a back seat to deep-seeded cultural conflicts, with oil prices and energy consumers as the ancillary victims.
The volatility and unpredictability of the current market presents an opportunity for U.S. shale producers to land squarely in the winner’s circle.
Fortunately, shale production allows the U.S. to distance itself from internal Middle Eastern conflicts, while simultaneously transforming into a global energy export powerhouse. Output from seven major domestic shale formations is expected to rise to a record high of 8.8 million barrels per day next month, according to the U.S. Energy Information Administration. The value of reliable, robust U.S. energy production, both to domestic consumers and increasingly to global buyers of U.S. products, should be even more apparent following the unanticipated events in Saudi.
In the midst of volatility and uncertainty, the U.S. upstream industry should savor its stability and the long-term growth potential of its shale assets. However, Middle Eastern challenges should not be viewed as a catalyst to open the production spigot. Instead, the U.S. onshore industry needs to be strategic and disciplined, emphasizing “Value over Volume” while waiting for oil market price signals which indicate the ability to generate sustained, long-term returns on capital deployed. Although the U.S. energy industry is demonstrating its ability to meaningfully grow production given sufficient time and capital, now is not the time for upstream companies to renege on their relatively recent pledges to favor financial returns over production growth.
In the near term, despite volatility, “Value over Volume” must be the mindset of U.S. producers.
Bottom line: The recent Saudi situation highlights the long-term value of stable U.S. shale production. However, the industry must carefully balance its new role as the global swing producer. In the near term, despite volatility, “Value over Volume” must be the mindset of U.S. producers. Otherwise the U.S. industry risks amplifying market volatility, rather than dampening it. Market leadership is all about doing the right thing, even when it isn’t easy.
This article originally appeared on LinkedIn.