Albert Einstein defined insanity as "doing the same thing over and over again and expecting different results". So goes our continued reliance on Middle Eastern oil. Over the last 40 years, this reliance has cost us trillions of dollars, several wars, and loss of precious life.
Recently, another measure of this insanity was brought to light by the Freeman report on "Economic Warfare: Risks and Responses". His report notes that in the rapid run-up in oil prices in 2008, the value of all OPEC oil reserves at $125 per barrel equaled the value of all other world financial assets, including every share of stock, every bond, every private company, all government and corporate debt, and the entire world's bank deposits.
But, we are happy to report, that we believe this era of insanity is about to come to an end. In our last Chlebina Cam, titled "Its A Gas", we reported on the incredible production ramp of natural gas through the use of new horizontal drilling and fracking technologies recently developed in this country. The speed at which this technology was developed and deployed is amazing. Just 7 years ago, Alan Greenspan was warning the country that we needed to build LNG terminals offshore in order to mitigate escalating prices due to declining sources of domestic natural gas. Now we have a 100 year supply and those LNG terminals are being reworked to export this now abundant and cheap energy resource.
With the recent turmoil in the Middle East, the domestic price of oil has surged past $100, Its cost relative to Natural Gas is now at record levels. By energy content, oil is now 4.5 times more expensive than natural gas. Yet, we believe high prices for oil will soon be history as the same technology that was used to unlock the massive amounts of natural gas in shale is now being used in similar formations to unlock oil. And it’s happening fast. Already, the beginning of this new oil production is affecting the domestic price as it is currently $15 a barrel cheaper than oil on international markets.
The potential of this new oil source, which is called unconventional oil, becomes apparent when comparing proven reserves of conventional oil…..that is oil that’s found using traditional methods. Saudi Arabia leads the world in this measure with the U.S. lagging far behind. Considering that we consume about 7 billion barrels of oil per year, our conventional reserves won’t last long, which is why we import over half of our needs. Twenty percent of those imports come from the Middle East. But the potential reserves from unconventional shale oil are gigantic!
Shale deposits are found throughout the U.S. and many parts of the rest of the world. They can be broadly classified as either mature or immature. This refers to the depth and age of the formation. Shale formations located deeper underground, typically greater than 5000 feet deep, are called mature. At those depths, the shale was exposed to high pressures and temperatures which over millions of years transformed differing percentages of each formation into retrievable oil. So far, there are at least 12 known major formations of mature shale in the U.S. that potentially hold hundreds of billions of barrels of oil which is just starting to be retrieved.
Immature shale is found near the surface of the earth. Because of the shallow depth, this shale was not exposed to the higher pressures and temperatures that the deeper, mature shale experienced. As a result, a precursor to oil, called Keragin must be processed out of the rock with heat and time. We believe that commercially viable extraction out of this oil shale is years away, but it could be huge in the future.
The extraction of shale oil has only just begun in several of the mature formations. Early production rates are spectacular, resulting in a modern day gold rush as exploration companies are restrained by shortages of rigs, supplies, and labor. As a result, North Dakota, where the Bakken formation was one of the first shale oil fields explored several years ago, now has the lowest unemployment rate in the country.
It’s our belief that the accelerating rate of drilling in all of the mature shale formations will result in an increase in domestic oil production that will equate to the amount of oil imported from the middle east in as little as 3 years. In our opinion this rapid increase in production will dramatically decrease the price of oil, just as it did in natural gas. The result will be a complete rebalance of global energy supply and security - tilted in favor of the United States. With abundant domestic, cheap supplies of both natural gas and oil, we think the U.S. will experience an economic boom the likes of which we have not seen in our lifetimes. We expect the focus of our economy will return to technological progress, where we excel.
We believe the impact on the equity markets will be immense. We have identified investments that will benefit from this domestic energy revolution in both oil and natural gas. The stocks that we have identified are directly or indirectly linked to this potential new era of energy independence.
Sincerely,
Larry Chlebina
President
Chlebina Capital Management, LLC
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