Richard Robinson is manager of the Ashburton Global Energy Fund.
The Brent crude oil price has moved back within touching distance of $60 this week, rebounding more than 30% from earlier in the summer to a level not seen since July 2015.
Despite witnessing heightened fears for the oil market during the sharp sell-off from late May to late June this year, we have consistently argued oil would end 2017 between $60-65. While scepticism continues to feature heavily within the oil market, we believe this is an interesting time to invest in energy.
After years of shrinking cash flows – with the resulting decimation of capex on long-cycle oil supply projects that take four to eight years to start production – OPEC’s efforts to clear oil inventory levels now seems to be succeeding.
While US shale in the Permian Basin is continuing its strong growth trajectory, its 2.5% contribution to global oil production pales against the 30m barrels produced offshore per day.
This area of the market, which needs years of investment to come on-stream, has been the particular victim of the Saudi-led efforts to strangle oversupply. The current strong supply correction should create enough room for OPEC to return to the market in 2018.
As we progress towards 2021, both US onshore activity & OPEC supply growth have to be extremely strong in order to balance what seems like increasingly an undersupplied market. Investors seeking to capitalise on the value on offer in the energy sector should gravitate towards high oil price sensitivity areas to maximise the rewards during this phase of the cycle.
While it is still reasonable to be looking onshore, investors should be seeking to move from the Permian Basin towards the Eagle Ford and Bakken fields – which enjoy a greater impact on multiples from the recent rise in the oil price.
Following this, if the projects coming online in 2018 and 2019 appear lean and the market begins to become extremely tight, oil prices may jump to c.$70 by the second half of 2018, particularly if we see a global balancing of inventories and consequently a return of a risk premium, something not encountered recently due to the comfort of large storage volumes.
Therefore, allocations to the offshore market must also be considered. In fact, we dipped back into the offshore arena earlier this year, buying into rig companies that have either newly launched or have addressed balance sheet concerns and consequently have some of the lowest breakeven day rates in the industry. These are names such as Borr Drilling and Songa Offshore.
We are extremely confident the oil space will be a good place for investors to be over the next three to five years. Historically, a poor period featuring a lack of spending, as we have witnessed over the past five to eight years, has been followed by an equally long period of outperformance.
The lack of spending always comes home to roost. With inventories soon to balance, the psyche of the market should move and the questions posed by investors will also change. With the dynamics currently in place, we expect to witness significant opportunities as the oil price moves higher.