Introduction

If you read my recent “2023 Investment Focus” blog post, you will see that I noted several focus areas for investing during 2023, and the energy supply/demand imbalance plays prominently in that list. I thought adding a bit more color to the concept for you might be interesting, so below I’ll give you some background on why the imbalance will be getting worse this year and a couple of investing ideas we have already put into action to capitalize upon it.

Why The Imbalance Is Getting Worse

Radnor Capital has written the following which I thought was a good summary of the situation – their information comes from statements made by the CEO’s of Halliburton Company and Hess Corporation. I’ve formatted it and update some of the wording to make it flow in a blog post:

• We are at the onset of an upcycle with so much underinvestment the last 6-7 years. This leads us to believe that this will be like no other energy cycle that we’ve seen before. 

• Five years ago, most of the oil services fracking equipment was owned by private companies, but now 70-80% is owned by publicly traded companies. This means there is much more scrutiny from Wall Street on what they do and whether they earn a decent return for their shareholders. Private companies can take risks that publicly traded companies cannot, so do not expect fracking to be a major part of the solution until prices are sustainably above their breakeven plus profit margin.
• Private equity is not coming into the energy business, so there is no major expansion effort underway to increase the number of companies producing oil. 
• We are trading duration for less one-time big increases which is how we see this cycle developing, but the market is valuing the industry like this upturn will only last one year. 
• There is the belief that the oil industry will only be around a short time as alternative green energies solutions become more economically viable and accepted by consumers, but the reality is that the oil industry will be around in 30 years as the world needs oil and gas to be competitive industrially.
• For the foreseeable future, oil is needed to provide affordable energy for the lower and middle income on a global basis until green energy solutions are economically viable to everyone.
• The world must spend $500 billion per year on oil and gas infrastructure, exploration and production for the next 10 years

In Forbes online today, there is an article from The International Energy Agency titled “IEA Raises Global Oil Demand Forecast Again.” The article begins: ” The International Energy Agency raised its forecast for global crude oil demand for 2023 in its Oil Market Report for February. Citing the re-opening of China’s economy as the main driver of rising demand, IEA analysts raised the 2023 forecast to 101.9 million barrels per day (bpd), an increase of 200,000 bpd from the agency’s January report.

“This latest in a series of increases raises the projection for 2023 to 2 million barrels per day above the 2022 number, a clear admission that the world’s appetite for crude continues to grow despite efforts by mainly western governments to subsidize a transition away from fossil fuels into existence. As that appetite grows, some other recent developments in the oil markets raise the potential for a supply shortage developing in the coming months, as the IEA notes in its report.

“World oil supply looks set to exceed demand through the first half of 2023, but the balance could quickly shift to deficit as demand recovers and some Russian output is shut in.”

With reports from OPEC+ that they again missed production targets, the IEA states that “For the year as a whole, global oil supply is forecast to expand by 1.2 million barrels per day, led by the United States, Brazil, Norway, Canada and Guyana.” Remember, they are projecting demand to increase by 2 million barrels per day.

Forbes further writes that “a report published late last year by the IEA itself projects global oil demand to peak in the 2030’s, but to plateau there for decades before finally beginning to drop sometime around 2050.”

Investment Opportunities

I see two glaring opportunities for investors: (1) deep sea drilling and shipping to meet the growing demand; and (2) uranium to provide an alternative to oil-and-gas-based energy. These are two areas that have significant detractors, and from an investment perspective they were believed to be dead. The companies operating in these areas have low valuations and growing cash flow, a recipe for a successful investment – you can never be certain of the timing of success, but everything I see points to it being now.

Deep sea drilling is a very long duration investment – it takes time to build the ships required to do the exploration and production. As such, most of the companies in the industry are trading well below where they should – it will take a near-permanent resetting higher of oil prices for the companies to expand production, and when investors do not see an immediate move higher in stock prices, they sell these companies.

Given the supply/demand imbalance and the deficit forecast by the IEA, last year we began to accumulate positions in this industry. Our first was Noble Corp. Our initial purchase to get our feet wet in this industry was in January 2022 at $26.47 per share. Yesterday it closed at $43.53 per share. Using analysts estimates of current revenues, the fair value is $68 or roughly 36% above current levels. But what if the demand deficit is sustained longer than Wall Street analysts project and revenues are significantly higher for significantly longer?

Uranium is another supply/demand imbalance story, albeit one that is being exacerbated by the oil supply/demand deficit. When I first began to accumulate uranium producer Cameco Corp. in September 2021, the world had supply of 150 million pounds from mining and demand of 180 million pounds (as reported by Harris Kupperman) – the differential was being filled by stockpiles users had accumulated.

Moving forward to today, the supply side of the equation is flat to falling (as stockpiles are depleted) but with the natural gas problem in Europe (due to Russian supply being cut off) demand is going up as shuttered nuclear energy facilities are being brought back online. Since the market for uranium is so narrow – a small number of mines and only 60 nuclear utilities, this is being overlooked as a viable investment. Admittedly, my first purchase of Cameco at $21.62 against a current value of $29.16 gives us a 35% return compared to the 65% return on the Noble purchase is less – but the future prospects sure seem as bright to me and I will continue to accumulate shares as prices allow.

In Closing

Much of our current inflation can be traced back to the supply/demand imbalance in oil. This has provided us with an opportunity to offset a portion of our pain with investment gains, which we are taking advantage of for our clients. If you would like to be one of those clients, please email me through the contact link on the banks webpage to discuss our investment management services and index beating returns.

–Mark