$50 Oil Is A Myth

A year ago, two groups of oil execs sat quietly around a large conference room. 

Mind you, this wasn’t some backroom filled thickly with cigar smoke and a couple of chairs parked next to a small poker table. Those days are over. No, this brightly lit, lavish room came with all the amenities one needs to woo the opposition and complete with enough lawyers that would make any room tense.  

I can picture one side of the table with broad, beaming smiles adorning their faces. 

But why shouldn’t they be happy? Once this deal closed, it would solidify Exxon as the undisputed king of the Permian Basin, and thrust the company to the very top of producers in what is arguably the greatest oil play in the world. 

That reign came with a hefty $60 billion price tag, too.

The suit and ties on Exxon’s side knew that once the ink was dry, the company would control more than 1.4 million net acres in the Delaware and Midland basins and hold roughly 16 billion barrels of oil equivalent resource. 

More to the point, this deal alone would more than double Exxon’s output in the Permian Basin. 

Their smiles were indeed well deserved, those Exxon execs must’ve thought. Yet, there must’ve been something disconcerting floating in the back of their minds, because the person staring back at them from across the table had a smile just as wide. 

Now we know why.

$50 Oil Is A Myth

The picturesque meeting is how I imagine the Exxon-Pioneer merger went down, although deep down we both know it was more likely far less exciting of a showdown. 

The merger wasn’t a surprise to our investment community when it was announced, nor was the $60 billion price tag. This is how we should all expect the world’s largest publicly-traded oil company to behave.

You see, Exxon may be an oil company, but it doesn’t grow through the drillbit as one might expect. Rather, it throws around its massive cash war chest — currently sitting at $23 billion — scooping up the oil companies that have spent their years developing sizable drilling inventories. 

In Exxon’s case, you might remember when it pulled the same move after buying XTO Energy in 2010, which firmly established the company’s presence in the Permian Basin. 

Rinse and repeat… welcome to the world of Big Oil. 

But there’s a reason why my mind can picture Pioneer’s CEO Scott Scheffield smiling right back across the table, almost daring them to dish out the $60 billion for his company. 

Let me show you why…

A couple of days ago, Mr. Sheffield was interviewed on CNBC. The topic at hand was pretty topical, with CNBC wanting to get his opinion on the latest round of tariffs, specifically on steel and aluminium. Naturally, he responded that these tariffs will just give more room to push drilling costs higher. 

However, there was a small bit towards the end that is particularly noteworthy. Not many people caught on, but I’m sure it made every Exxon exec cringe. 

First, listen to the 3-minute interview yourself here:

Click to Watch Interview

Did you catch it? Right around the 2:15 mark, Mr. Sheffield let the cat out of the bag, saying that at the time Pioneer had to diversify because they were running out of Tier 1 inventory. He even suggested that everyone was running out of Tier 1 inventory.

Look, you don’t need to be a petroleum geologist to understand what he was hinting at. Just as it sounds, Tier 1 inventory is simply the highest-quality acreage that will yield the best production and is the easiest to develop. 

High drilling success with the most attractive returns. 

And Pioneer’s CEO was of the mind that the company was running out of it, along with everyone else. 

So what does this mean? Are we headed for some catastrophic doomsday collapse of the U.S. tight oil output (which I’ll soberly point out accounts for nearly two-thirds of our total domestic crude production)?

Of course not. We’ll be extracting an incredible amount of oil from underground for years, even perhaps decades to come. 

However, that oil won’t be cheap. 

And this, dear reader, is the conundrum that President Trump finds himself in when his advisors blithely suggest that oil prices will come down to $50 per barrel and a new drilling frenzy will send our domestic oil production soaring to new heights. 

In fact, if you want to really mess with your head, in some ways we’re already well under $50 oil. Adjusted for inflation, yesterday’s WTI price of $67.66 per barrel would’ve been worth $43.97 per barrel in 2007, just as the tight oil boom was about to explode into the spotlight. 

If WTI prices were to drop to $50 per barrel today, it would be like $32/bbl oil back at the start of our oil boom. 

Cross your fingers that doesn’t happen, because then we’d see a true doomsday scenario, where the entire E&P sector would radically cut spending and go into full survival mode. 

No, oil is NOT going to $50 per barrel. 

I’ll also note that while the rest of the market bled freely this week, oil found strong support among traders. 

That’s not a coincidence. 

Now bring this back full circle and put yourself ahead of Exxon and the rest of Big Oil. Rather than looking for quantity, our investment community here knows that the real value is in the quality of the driller. 

And in this case, it all comes down to just one thing.

Let me show you first hand where the real investment gems are in today’s oil patch — the oil stocks that are at the top of Exxon’s shopping list.