West Texas Intermediary crude oil prices fell below $0 per barrel on April 20th- a clear indication that inventories have reached their max. With June 2020 oil contracts trading above $20 per barrel, it would seem that, for now, oil markets are operating on the same type of rolling, month-by-month timeline as the rest of the broader economy. As more certainty is established on both supply and demand over the next several months, prices could conceivable rebound just as dramatically as they have declined. Until then, we believe those companies with solid balance sheets and excellent (low cost) execution should be able to survive.
Jenna Dagenhart: Hello, and welcome to Asset TV. Joining us to discuss the historic production cut from OPEC and its allies, the energy sector and more, is Shawn Reynolds. He's portfolio manager for the Natural Resources Equity Strategies team at VanEck. Shawn, thanks for being with us.
Shawn Reynolds: Thanks for having me.
Jenna Dagenhart: Shawn, walk us through the recent OPEC Plus resolution. What do you believe to be the short-term, as well as the long-term ramifications on oil?
Shawn Reynolds: Well, I guess that really depends on your perspective. If you're taking it from the OPEC/Saudi side, they've done two things. In the short term, they've stopped armageddon—complete hemorrhaging of the oil price. They needed to do that because they were getting to a level where prices were hurting everyone, not just those who they were focused on. Longer term, I think they've gotten what they wanted in that prices are going to settle in the $20s, $30s [per barrel] over the next three to six, seven months. That's a price that continues to put stress on the high cost producers around the world, whether it be shale or offshore. And they want that. They want those high cost producers to exit the market, and for Saudi and other OPEC members to continue to gain market share.
So they've pretty much accomplished what they're looking for. For the actual producers on that end, it’s too little too late. You are basically getting to a point where inventories are going to get full in the United States, in North America, all around the world, and that is obviously pressuring near term prices. There's quite a bit of contango in the market right now, meaning that prices in the outer months and outer years are much higher than the near months. But that doesn't matter when you're producing today and looking for cash flow today. Many of these companies here in the U.S., as well as around the world, are really struggling with regards to the cash flow they're generating.
Jenna Dagenhart: Yeah, difficult situation with that contango. But as you mentioned with your first point, always a good thing to be stopping armageddon, I gather.
Shawn Reynolds: Yes, exactly.
Jenna Dagenhart: And moving on, how has the pandemic impacted operations of U.S. E&P companies and the recent initiatives to focus on returns?
Shawn Reynolds: Operationally, it really hasn't hit the industry very hard at all. In many other resource industries, we hear about mine closures or even pork producing closures or whatever. In the oil industry so far, you're not seeing pandemic related closures. You are seeing the rig count and frack crews being cut dramatically, but that's really related to the operations associated with price and restriction of capital. So, from that front, you haven't seen a lot of impact. With regards to the emerging and growing strategy and business model of returning capital in the forms of dividends and perhaps share repurchases, yet to be seen. There are some companies like Chevron who have said, “Absolutely our first priority is to maintain and grow that dividend.” Many of the shale companies who understand that they've spent 10 years investing on the behalf of shareholders and now have to return some of that capital, many of them have committed to doing that.
In fact, when we talk to them quite often you hear, “Here are our priorities: Make our employees safe, take care of our balance sheet, pay our employees and return capital to shareholders, at the expense of production." And that's the key point there. When we hear that from companies, we say, “Well, what does that mean? A year from now, your production could be down 10 or 20%?” and we basically get a nodding of the head, saying, "Yes, that's exactly what it could be." Not "That's what we want to be." Not "That's what we're planning for, but if that's what it turns out to be, we can do that." And many of them are forecasting and modeling around very low prices—$15 a barrel—and more than several are saying that we can deliver on those priorities that I just outlined if we hit that. Not if we stay there for years, but if we hit that for a period of time, we can deliver on those priorities.
Jenna Dagenhart: Shawn, despite this challenging environment, what opportunities are you seeing in alternative energy?
Shawn Reynolds: Alternative energy is a space that we've been adding exposure to for quite some time, and really for two reasons. First of all, it fits into the overall strategy’s philosophy of trying to leverage global growth and provide some inflation protection. Also, importantly, it really provides some diversification benefits that we've seen a lot of help from in terms of the performance over the last few years, actually. The second reason is that this portfolio that we run has always kind of tried to be forward-looking and think about themes and trends in the future, and clearly alternative energy and sustainability is a gigantic theme. The areas that we've been exposed to most is solar, solar components, geothermal, financing in the solar and alternative area, as well as most recently into renewable diesel.
Obviously quite a spectrum there, quite a lot of different things, and that's true to the entire area that we've seen for quite some time. There's a lot of companies involved in alternative energy. There are not a lot of good investment opportunities in alternative energy, and we spend a lot of time focusing on what we always say: sustainability demands sustainability—i.e., sustainable financial results need to be there to deliver sustainable environmental results. We look for—just like we look for in every company—great management team that can actually execute, good assets, good business models and a strong balance sheet. Those are few and far between in the alternative energy space, but we've had a lot of success in identifying those over the last few years.
Jenna Dagenhart: So looking for those strong points, but you're still well-diversified within the alternative energy space.
Shawn Reynolds: Yes. As I said, solar, geothermal, renewable diesel, quite a lot of different areas. And there's more to come. I would not be surprised, and I would even say expect, more alternative energy over the years in this strategy.
Jenna Dagenhart: Well, thank you so much for your time, Shawn. Great to have you.
Shawn Reynolds: Thank you.
Jenna Dagenhart: And thank you for watching. That was Shawn Reynolds, Portfolio Manager for the Natural Resources Equity Strategies team at VanEck. I'm Jenna Dagenhart with Asset TV.
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