The Global Guru: The U.S. Energy Boom: “Declaration of Independence”?

Last week, the Paris-based International Energy Agency (IEA) reported that the United States is set to overtake Saudi Arabia and Russia as the world’s top oil producer by 2017. This startling development was largely thanks to high-pressure fracturing and horizontal-drilling techniques (“fracking”) that unlock “tight oil” and shale gas resources in the Bakken Shale region spread beneath North Dakota, Montana and Saskatchewan.

This was a rare bit of good news for the United States, after half a decade of relentlessly negative headlines. If IEA’s pronouncements about the U.S. oil industry hold up, the coming oil boom will impact everything from U.S. foreign policy to the competitiveness of the U.S. manufacturing sector.

U.S. Energy: The Current State of Play

Recent estimates of the United States’ oil shale reserves have vaulted it well ahead of oil giants Saudi Arabia and Russia. It turns out that the United States may be sitting on five times the oil reserves of Saudi Arabia. There may be twice as much shale oil trapped in the Bakken Formation of North Dakota alone as in the entire Prudhoe Bay of Alaska.

This revolution already has shifted the U.S. energy landscape. U.S. oil output has risen 25% since 2008 and is set to rise 7% in 2013 to reach an average of 10.9 million barrels per day. That’s four straight years of increases and the biggest single year gain since 1951.

The same dynamic applies to natural gas production. In a decade, shale gas has risen from 2% of U.S. natural gas production to 37%. While Saudi Arabia ceded its crown in crude oil, the United States has also overtaken Russia as the world’s largest natural gas producer.

Energy Advantage: The United States

1. No More OPEC Blackmail 

President Richard M. Nixon’s call for U.S. energy independence in 1973 was driven by the OPEC’s willingness to blackmail the United States by cutting off oil imports.

Forty years later, the United States is well on its way toward achieving Nixon’s seemingly unattainable goal. According to the U.S. Energy Department, the United States met 83% of its own energy needs this year. U.S. petroleum imports have fallen from 60% of consumption in 2005 to 42% today. That’s lower than any time since 1992.

This also means U.S. foreign policy in the future will focus much less on the Middle East. Let’s face it: if it weren’t for oil, the region would attract no more attention than say Eastern Europe or Latin America does. By 2035, almost 90% of oil from the Middle East will go to Asia — up from 60% today. And the United States will be ever more reluctant to maintain fleets of aircraft carriers in the region, since it would be securing the seas for the benefit of China and India.

2. More U.S. Jobs

The oil and gas drilling boom launched in the last decade has already created 1.7 million jobs. Another 1.3 million jobs will be created by the end of the decade. And these aren’t burger-flipping jobs or Obamacare-induced 29-hour a week restaurant gigs. Recent graduates of the South Dakota School of Mines & Technology now earn more than Harvard grads. Taxes on high salaries bolster government coffers, as well. Revenues arising from unconventional oil and gas businesses could reach $110 billion — though at today’s rate, that would fund the federal deficit for only a month.

3. Boom time for U.S. refiners and manufacturers

The rise of shale oil production has already put Midwest-based oil refiners at a huge advantage compared to their competitors. They now pay less for crude than their counterparts on the East and West Coasts, and they are starting to crank out the big profits. And these stocks, one of which is among the current recommendations in my trading service, Bull Market Alert, have been soaring even as the rest of the U.S. stock market has tumbled.

Other U.S. companies stand to benefit, as well. U.S. natural gas prices are one third of their level in Europe and a quarter of that in Japan. This gives U.S. manufacturers a terrific edge. The same applies to oil. West Texas Intermediate Crude (WTI) — boosted by cheap Bakken oil — is trading currently at $88.62 per barrel versus $111.5 for Brent — giving a big boost to the bottom lines of U.S. companies.

U.S. Energy Boom: Can It Last?

All of this is pretty exciting, persuasive stuff. And it would be great news for a beleaguered U.S. economy if it continues.But the current euphoric talk of energy independence could turn out to be just plain wrong.Consider recent predictions concerning the U.S. natural gas industry. Back in 2005, the consensus was that the United States was set to increase imports of natural gas, in the form of liquefied natural gas (LNG). The worry was that the United States would be unable to build LNG terminals fast enough to bring in much needed imports. Eight years later, the United States is becoming a supplier of natural gas to the world. Companies that had been investing in multibillion-dollar LNG terminals to import critically needed supplies of gas are now investing in multibillion-dollar LNG export facilities.

Yet again, the experts got it exactly wrong. Can we trust them anymore this time around?
Then there is the issue of the limits of technology. The average well drilled in Saudi Arabia produces 26 times more oil than one in North Dakota. Depletion rates are much faster than conventional oil wells. Drilling must continue at a rapid pace to keep up oil production. And you don’t have to be a tree hugger to not want the United States to cover its landscape with oil rigs.

But I think the real Achilles heel of the U.S. energy story is a lower oil price.

After all, if oil prices were trading at $50 a barrel, no one would bother with shale. If oil prices fall, so will drilling activity. You already see that with natural gas. Say, the Saudi’s cost of production per barrel of oil is roughly $2.00. They could easily put the North Dakota boys out of business without batting an eye-lash.

After all, no one can revoke the law of supply and demand.

Sincerely,

Nicholas A. Vardy