24 Jul 2015
Significant changes to energy markets over the last 12 months have raised questions about how market participants adapt and remain profitable.
The US is in the process of substantially decreasing its net energy imports with a focus on increasing its overall exports as a result of massive technological changes in the energy production industry.
Macquarie Oil & Gas Strategist Vikas Dwivedi says the companies that have the best chance of withstanding the pressures in the oil industry are those that are agile with strong capital positions.
Those which will best weather the storm will be “well managed, nimble and have a big balance sheet,” says Dwivedi. “Small companies and those so large they cannot adapt will find this a tough environment.”
While oil production had been outpacing demand for some time, the demand side fell suddenly in mid 2014, leading to volatile and unstable market conditions across the industry.
The abrupt fall in prices, unexpected by many in the market, is the result of a number of complex market forces, says Dwivedi.
“The price shock failed to be predicted because complacency had crept into the market as a result of consistently low volatility,” Dwivedi says. “In hindsight, the market should have been better prepared. As a result, the current market environment is extremely volatile.”
The oil price has long been dictated by OPEC, until the US energy revolution, one of the most significant global economic developments of recent times, profoundly impacted the market.
Until recently the world’s largest net oil importer, the US is expected to become the largest producer of oil and liquefied natural gas (LNG) by 2020. The ability to produce and export LNG has been driven by breakthroughs in shale gas exploration and development, which have led to a significant increase in US natural gas reserves, now estimated to last more than 100 years.
Freeport LNG is one of the first large natural gas export facilities taking advantage of the shale gas revolution.
While the oil industry experienced problems during the global financial crisis, its current difficulties are more complex.
“The current problems are specific to the oil industry itself and are the result of a massive oversupply of oil ,” says Dwivedi.
The price must recover sufficiently to make production commercially viable, but cannot be too high. The delicate mechanics of supply and demand may take some time to resolve.
Some market commentators have compared current conditions to the turbulence of the 1980s, when a flood of oil to the market caused a price collapse from which it took years to recover. There were also a large number of market participants that declared bankruptcy.
For institutional investors, opportunities remain in the distressed markets, including high yield debt, though these now fall outside traditional asset classes.
Dwivedi says more than ever, clients are looking for comprehensive, multi-layer solutions. “Trying to put it all together is what they value.”
Part of that strategic advice is navigating the volatility that is expected to continue for the foreseeable future.