The 13f in the fourth quarter of 2020 has finally come out. Berkshire Hathaway’s position changes are still attracting attention. The most eye-catching part of this quarter is that the insurance company of Warren Buffett opened Chevron’s. Position. This is not the first time the old man has intervened in energy stocks. The purchase of PetroChina more than ten years ago is a classic investment case. The other is ConocoPhillips. For the chemical company PSX, this is still a very rewarding investment.
The main reason is that its position in Chevron is the first intervention in an upstream oil and gas producer company in recent years. When the oil price crashed in 2016, Buffett’s targets were midstream pipeline company Kinder Morgan and downstream refining and chemical distributor Phillips66. Chevron’s business model is mainly oil and gas production, while using its superb capital operation and management capabilities to affect the entire resource. The reserve portfolio is managed. To put it simply, Berkshire’s bottom-hunting in 2016 is still relatively conservative. Even if it intervenes in the traditional energy industry again in 2019, it is through financing support for Occidental Petroleum’s acquisition of Anadarko through the classic preferred stock attachment. Donated call options.
Since the market performance of upstream production is almost only linked to oil and gas prices, this move means that Berkshire is strongly optimistic about the performance of energy prices in the future. In fact, not only Berkshire, but several other well-known investors also opened positions in the energy industry in the fourth quarter of 2020, including the Appaloosa Fund of David Tapper, nicknamed “The King of Bottom Hunters”.
After a quarter, this idea has proved to be very successful. The energy industry is the worst performing industry in the U.S. stock index in 2020, but it is one of the S&P’s best performing industries since 2021, and more and more people are beginning to agree. This industry will be able to get out of the predicament.
The energy industry was once in trouble
In fact, before the outbreak of the new crown epidemic, the energy industry was already in deep trouble. As the United States surpassed Saudi Arabia to become the world’s No. 1 oil and gas producer, conflicts between all parties are also heating up, and the industry has changed from OPEC’s dominance to a more complex trio of Saudi, United States and Russia.
Although the price of WTI crude oil was still above US$60 at that time, on the one hand, U.S. shale oil and gas production increased by leaps and bounds; on the other hand, behind the radical increase in production, the debt of most shale producers was getting higher and higher, and almost There is no capital reserve. So when the epidemic and Saudi dumping hit both, Buffett’s words in an interview were: “This industry was hit hard by two combos.”
Are the shale producers a bunch of idiots who don’t know they are dancing with a noose? Of course not, they are overwhelmed. Relatively fast-growing production capacity, the pipeline transportation capacity in the United States is relatively lagging. In order to seize the capacity, manufacturers often sign long-term contracts with pipeline companies to incentivize them to invest in construction. Regardless of how much you actually produce, you have to pay a fixed amount. Cost, so the lower the output, the higher the cost. Another reason is that the production of shale oil requires continuous drilling and completion to maintain business, otherwise it will not advance or retreat.
In the fourth quarter of 2020, the market’s sentiment towards the oil and gas industry reached a pessimistic culmination. In the short term, due to the recurrence of the new crown virus in the winter, Europe and the United States entered the second round of blockade, demand shrank, and international crude oil prices fell below 40 US dollars per barrel again. Subsequently, the crude oil giant Exxon Mobil was kicked out of the S&P index for the first time, and news of substantial layoffs and capital expenditure reductions continued in the industry to survive the winter. The market value of the fossil energy industry in the S&P index was as low as historically. About 2% of the extreme value.
Chart: Changes in the number of shale oil and gas drilling and new completions in the United States
Image source: Primary Vision
At the same time, there is no lack of mainstream medium-term bearish logic: First, the impact of the epidemic on oil and gas consumption will be long-term. Due to the delayed aviation demand, the recovery of fuel consumption demand will be very slow; secondly, with the development of new energy vehicles and renewable electricity , The high point of global oil and gas demand will come early, and more radical predictions even believe that the peak of fossil energy demand will be reached in the next two or three years; finally, OPEC will suppress oil prices for a long time to suppress the development of the U.S. shale industry. Once oil prices rebound, American producers will continue to pursue output rather than shareholder returns. Oil and gas prices can hardly stand up under the prisoner’s dilemma.
Just as everything can be viewed from multiple angles, we can analyze whether the short-term and medium-term logic of the market is reasonable.
Although the new coronavirus rages again in the fourth quarter of 2020, humans have faced a new type of virus more than once in the history of mankind. Every time the virus appears, it has caused serious suffering to humans. With the enhancement of adaptability, no virus can Long-term and complete changes to human behavior habits. Moreover, the development of modern medical technology is changing with each passing day. I always believe that human beings will eventually defeat the virus.
Mobil was kicked out of the index, as well as the layoffs and capital expenditure plans seen. On the one hand, it highlights the industry’s dilemma; on the other hand, it brings two benefits. The ultra-low ratio of funds to the traditional energy industry means that if market funds are found to be needed Correction, it is easy to appear fast and violent market. Layoffs and reduced capital expenditures mean that the supply-side rebound may be lower than market expectations.
Part of the bearish logic in the mid-term is not very convincing, or there is a maturity mismatch. In the fourth quarter of 2020, various signs have shown that the impact of the epidemic on oil and gas demand is likely to be overestimated. At that time, the speed of demand recovery in both China and India was surprising, especially in India, although the epidemic was not effectively controlled at all. However, as more people gave up more efficient public transportation and switched to self-driving travel, the supply and demand of oil products were booming, and the operating rate of large refineries quickly reversed. Will other countries do the same after the epidemic resumes? It is worth thinking about.
From the weekly measurement of gasoline and diesel inventories in the United States, it can be seen that although demand is still low, with the shrinking of refining and chemical production capacity, even at the peak of the epidemic at the end of 2020, it has gradually revealed the normalization of inventories. As a result, gasoline and diesel inventories have returned to within the five-year average range. Although the demand for personal transportation has weakened, the demand for freight movement has made up part of the gap. Once the epidemic subsides, as long as the demand for personnel mobility is partially restored, it is likely to see a contraction in the refined oil market, which will be followed by a surge in refinery capacity utilization and a large absorption of crude oil inventories. This is a probable event, but the market did not price this possibility at all at the time.
On the other hand, new energy vehicles and renewable energy are indeed the future trends, and will eventually have a profound impact on the traditional energy industry. However, the replacement frequency of electric vehicles is not as fast as that of mobile phones. Industry data shows that the average life cycle of new cars is 8.4 years, the cycle length is about three times that of mobile phones, and the full life cycle of cars is much longer than that of mobile phones. Therefore, we should not expect electric vehicles to end the battle like the replacement of non-smart phones by Apple phones. If you include a large number of third-world countries with insufficient infrastructure, it should take several years for traditional energy to reach the peak of demand. At that time, whether the decline in demand or the decline in effective production capacity caused by insufficient capital investment will be faster will be another question. This is the second blind spot where the market fails to price possibilities.
In terms of the third logic, will the U.S. shale industry once again rapidly and radically expand production? After several years of bear market ravages, investors no longer believe in any commitments made by the industry to capital control. But at the same time, the industry may never go back to the time it used to increase production.
As shown in the figure, this is a good forward indicator for observing shale oil and gas in the United States. The green line is the weighted number of active drilling rigs for oil and gas, and the red line is the number of newly completed wells. Shale companies usually perform hydraulic fracturing activities by drilling first, and then the well-drilled well will enter the DUC inventory (drilled but not completed), and during production, the appropriate well will be selected from the DUC to complete the fracturing work as planned. The number of active drilling rigs can be regarded as a forward-looking indicator, but in recent years, with the improvement of technical efficiency, the correlation between the number of drilling rigs and production has weakened. Relatively speaking, the number of completions is more accurate for the production forecast after two or three quarters.
It can be clearly seen that the impact on the industry in 2020 is much greater than the oil price crash in 2016, so that on the first anniversary of the outbreak, both the number of drilling rigs and the number of well completions are only climbing to the bottom of the 2016 cycle. nearby. Due to the rapid attenuation characteristics of shale, the number of newly completed wells needs to be kept at about 200 in order to straighten the attenuation curve. But until the end of January, Frac Spead failed to return to more than 200. Instead, he was hit hard again under the influence of the Texas cold wave. Although the rate of recovery this time will definitely be much faster than 2020, the average production of shale oil in 2021 may be lower than the previously estimated 11 million barrels per day. This has not yet taken into account the deteriorating quality of inventory wells.
Finally, the position of the new Biden administration to suppress fossil energy producers under pressure from environmental groups is unquestionable. At the beginning of its tenure, it has successively cancelled the construction of pipelines in the United States and Canada, suspended federal land leases, and lifted the ban on banks not refusing to apply for loans from shale producers. .
If you understand the cause and effect, Berkshire’s position on Chevron is logical. So does fossil energy really have no future? It may be true for the industry, but not necessarily for investment. If the industry can establish a very high entry barrier, large-scale integration and strict capital discipline, and return all the wealthy funds from operations to investors, then it may be like the tobacco industry that it can also invest when the industry declines. Those who bring considerable returns. Pioneer Resources Group (PXD), a leader in the shale industry, is trying to implement variable dividends, trying to take a different path. In short, everything is possible, which is the charm of investment.