The Retired Investor: U.S. Shale Producers Can't Rescue Us

Oil prices are up 70 percent since last year. Prices at the pump were well over $4.25 a gallon recently. Everyone from President Biden on down is scrambling to find a way to reduce energy prices. Why, therefore, aren't we looking at our own domestic oil producers?

 

Unlike Saudi Arabia or the United Arab Emirates, which can increase the global oil supply with a flick of a switch, the shale energy community would need to increase spending in areas such as exploration, drilling and production. That is something they are not willing to do for a variety of reasons.

 

For years, shale drillers have been plagued by regulatory and environmental obstacles. Despite the court cases and lawsuits, shale companies forged ahead. Their stock prices soared as they spent more and more on speculative drilling and expansion. That era ended badly when oil prices collapsed in the early days of the coronavirus pandemic. A wave of bankruptcies swept through the shale industry and left the survivors chastened and extremely cautious.

 

The cowboy of yesterday has become the pinstriped borrower that Wall Street prefers. Rather than wild catting, company managements are buying back stock and instituting dividends.

 

That is not to say that oil production is at a standstill. The U.S. Energy Information Administration expects 2022 production will average 12 million barrels per day and 13 million barrels per day by 2023, which would be a record production year for U.S. producers.

 

The problem is that the same problems that are besetting the rest of the economy are plaguing energy producers as well. Supply chain constraints as well as the scarcity of labor are slowing even those companies willing to produce more. One simple example is the cost and scarcity of sand.

 

A cocktail of chemicals, water and sand are used in the fracturing of shale formations. The price of fracking sand has risen 185 percent during 2021 and now costs $45 per ton — if you can find it. If you throw in other key inputs like diesel fuel and steel, which are also rising in price the costs of drilling have exploded higher. At the same time, labor shortages not only at the well head but also in every link in the labor chain, from truck drivers to drillers, slow down production immensely.

 

Even if there was some policy change or other event that could galvanize another shale oil drilling boom, it would require six to nine months before that oil could reach the market. As such, the U.S. is joining the mad scramble for additional oil supplies. The U.S. is at a disadvantage thanks to President Biden's cool relationship with the heir-apparent to the Saudi Kingdom, Prince Mohammed bin Salman. Biden pledged to make Saudi Arabia a "pariah" due to the killing of Washington Post journalist Jamal Khashoggi in 2018.

 

At the same time, Saudi Arabia has changed their approach towards the U.S., especially under Biden. Russia's membership and importance in the OPEC-plus cartel has resulted in a neutral Saudi stance toward Russia's aggression in Ukraine. Qatar has agreed to work with Germany in increasing their supplies of liquefied natural gas. Japan is also negotiating with the UAE to increase oil supplies as has the U.K., but so far, they have received little satisfaction.

 

About the best the world can hope for is a cease-fire and a reduction in hostilities between Russia and Ukraine to at least dampen the rise in oil prices. I will stick my neck out and predict that we should see such an agreement by the end of the month.

 

Bill Schmick is the founding partner of Onota Partners, Inc., in the Berkshires. His forecasts and opinions are purely his own and do not necessarily represent the views of Onota Partners Inc. (OPI). None of his commentary is or should be considered investment advice. Direct your inquiries to Bill at 1-413-347-2401 or email him at bill@schmicksretiredinvestor.com.