Why I Continue To Invest In Oil / Recent Reads / Recent Listens / Happy Thanksgiving!
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Why I Continue To Invest In Oil / Recent Reads / Recent Listens / Happy Thanksgiving!
Kaoboy Musings 15 – 11/22/2019
Why I Continue To Invest In Oil
I’m not actually a masochist, even though it may seem like it with respect to this investment theme. In Kaoboy Musings 10 & 13, I talked about a deeply contrarian investment thesis I’ve had for the last several years – oil and oil equities.
This has been an extremely challenging space to be invested in during the last several years, but I want to share some thoughts about my thesis and refer to some slides from a deck put out by energy consultant Art Berman (see attached):
This has been an extremely challenging space to be invested in during the last several years, but I want to share some thoughts about my thesis and refer to some slides from a deck put out by energy consultant Art Berman (see attached):
Despite the growing share of renewables, oil/gas’s share of world energy consumption will continue to dominate for decades to come (slide 1, 31).
The hydrocarbon is, quite literally, the most efficient “battery storage” for solar energy that nature has devised and will be difficult if not impossible to fully displace given the sheer energy density, lack of intermittency, and economic efficiency with which it can be produced, stored and transported.
Although the U.S. does not have a monopoly on shale deposits, the U.S. does wield a confluence of factors that have enabled a “shale miracle” in our country that is not easily replicable in other countries. These factors include:
Plentiful shale deposits spanning contiguous acreage (required for horizontal drilling) – see slide 8.
A political system that allows private land ownership to retain mineral rights (provides the right economic incentives to develop this resource)
An advanced economy with unparalleled access to innovation and technology
An abundance of water (required for hydraulic fracturing)
Cheap cost of capital
An extensive transportation network that does not require international cooperation to build out/maintain
Yet despite these advantages, I believe U.S. shale oil alone will not be enough to cover the world’s growing appetite for oil – even without a frac ban, which would be economic catastrophe for the U.S. and the world in my opinion, given shale’s nearly 60% share of total U.S. production (see slide 4).
Key statement from slide 13: “U.S. and the world have been borrowing forward on their surplus energy.” I agree with this statement and find it ironic that the debt-fueled boom that enabled rampant land-grabs and undisciplined production have led to cheap oil for the world but resulted in massive value-destruction for investors.
As Slide 20 shows, this is changing. With energy now comprising an all-time low of 4% of the S&P, investors are demanding capital discipline and free cash flow.
As mentioned in Kaoboy Musings 13, I believe the process of consolidation is occurring in the U.S., and the day will be won by the players in the best basins, with the strongest balance sheets, who can execute the most efficiently and be the lowest-cost producers. These will be the “last guys standing.”
I believe the supermajors will continue to shift their resources from higher-cost projects to lower-cost projects, and this augurs well for the “last guys standing.” See this article: http://www.ejinsight.com/20191122-exxon-aims-to-sell-us25-billion-of-assets-report/.
In the U.S. I believe the “last guys standing” will be the best players in the Permian Basin in West Texas, which is blessed with geology that features multiple zones of hydrocarbon deposits “stacked” on top of one another. This feature allows the Permian producers to have much lower well-costs as well as greater inventory depth than anywhere else; already, every other basin in the U.S. has peaked in production.
The Permian alone cannot carry the day, and I believe the EIA production projections (which have historically been terrible) are going to disappoint. See Slide 17. Art Berman has been saying this for years. I will caveat this point by saying that U.S. technology ingenuity has surprised us in the past, but I wonder if the best days of those surprises are behind us at least with respect to U.S. shale. For other higher-cost sources of oil like deep-water or Canadian tar sands, much higher oil prices will be required to enable economic viability.
So the bottom-line of all this is to say that I believe, barring global recession, oil prices will continue to grind higher and possibly spike if shale production overall disappoints, and that the best way to play this theme will be through the best-capitalized “last guys standing” in the Permian Basin. Full disclosure: I am long both public and private equities of various Permian oil/gas producers.
Recent Reads
Andrew Carnegie by David Nasaw
I already gave a synopsis in Kaoboy Musings 12, so I will keep this short. My biggest takeaway from this book was how “history may not always repeat itself, but it often rhymes,” to paraphrase Mark Twain. The exorable march of technological progress has consistently exerted deflationary pressure on wages and forced labor to become more educated/skilled in order to adapt. Another recurring theme that is topical to today’s world is how the capitalistic engine of the Industrial Era in the U.S. both laid the groundwork for tremendous economic growth as well as some of the social issues that go with that growth (wealth inequality, labor rights, etc). Finally, germane my own investments in commodity industries, it outlined the importance of being the lowest-cost producer when one has no control over commodity prices as was the case with Carnegie and the steel industry.
The Politically Incorrect Guide to Climate Change by Marc Morano
My intent was to get educated on this subject, because it has become such a political hot potato when it seems to me that it should be a discussion that is fact-based. This book, although partisan at times, was very revelatory on several fronts and at least gave me an overview of the main points of controversy in this debate. I believe it is an important topic that affects everyone on Planet Earth and that there are extremists on both sides of the argument that obfuscate the issues in the name of politics and policy objectives. At the minimum, it has led me to purchase several more books on the topic and led me to create a chat group on WhatsApp to discuss this topic intelligently. Please feel free to join if you are interested: https://chat.whatsapp.com/DT2bQrLyb5AJxhZuN2I8EI
The Man Who Solved The Market: How Jim Simons Launched the Quant Revolution by Greg Zuckerman
This was a quick, fun read but as an investor I was selfishly hoping for something a little more market-insightful, but I guess it’s not surprising to me given the iron-clad NDA’s required of all of Simons’ employees. After reading this, I don’t know whether to be inspired or depressed as a fundamental investor, because it seems like the Renaissance team has truly carved out an almost unassailable edge through the successful harnessing of complex mathematical algorithms and machine learning. I used to require my hedge fund employees to read Reminiscences of a Stock Operator by Edwin Lefèvre, which was about a legendary speculator named Jesse Livermore (1877-1940) and his incredible ups and downs in the markets during the end of the 19th century/beginning of the 20th century, because I always said that, “Markets and technologies may change, but the two market constants are investor greed and investor fear.” While I still largely hold this thesis, this book was sobering to me in that it shows that technology can even disrupt a highly uncertain and dynamic field like investing, so as in Carnegie’s/Livermore’s era, we need to keep learning new things to adapt.
Recent Listens
I recently discovered a great, free app called Hoopla that allows you to “borrow” audiobooks from your local library electronically for free! Hence, I’ve supplemented my reading with a healthy dose of audiobooks as well. Here are some:
The Power of Vulnerability by Brene Brown
This was more like a 6-7 hour podcast interview than a traditional audiobook, but it was a very effective format for the content. I’ve always liked to read self-help books, but now that I’m discovering this medium, I find that listening to the actual author convey his/her message may even be more effective – at least for this genre. There are a lot of great nuggets of wisdom in this book about how to be present, but I had one powerful takeaway from this book: when confronted with demands that may not work for your present circumstances, it’s more important to be authentic and uncomfortable in saying “no” than it is to say “yes” inauthentically and harbor resentment. Lots of wisdom in that, in my opinion.
Stillness Speaks by Eckhart Tolle
I’ve read several of Tolle’s books, including The Power of Now and A New Earth. Stillness Speaks covers roughly the same topics about how to find presence in stillness as well as learning to recognize one’s attachment to ego. Honestly, none of this material would have resonated with me even 5 years ago, but in 2016 I attended a life-changing retreat in Napa Valley called “The Hoffman Process” which introduced to me the practice of being present as well as recognizing that we are not our patterns. Since then, I’ve come to realize that almost all of these books and seminars basically share the same essence – just with different vocabulary and perspectives. Eckhart Tolle to me is one of the best authors on the subject, and I highly recommend his podcast with Oprah Winfrey:
With that, I wish you all a wonderful and Happy Thanksgiving -- we can all be grateful that we are not turkeys!
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About
Kaoboy Musings is a private distribution list/blog that I created to encourage dialogue regarding the economy & markets, geopolitics, investment ideas, and life in general. I have a passion for the markets and investing, and even though I no longer accept investor capital, I try to keep current on global events and opportunities and remain active in the markets. I’ve always found that writing my ideas down, sharing them with smart people, and encouraging two-way discourse and devil’s advocacy is often the best way to validate or invalidate a thesis and stay mentally flexible.
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