The shale revolution: past, present, future

The shale energy revolution recently (and for most commentators, unexpectedly) conquered the world; so, it is truly shocking today to be writing about the prospects for its survival. Nevertheless, following on from the Covid­19 crisis – the political risk event of a generation – and the energy industry’s own suicidal civil war, the question is entirely reasonable. I have attended endless energy conferences over the past decade about “the next big thing,” and it has always greatly amused me to see the shale revolution given short shrift: in truth, it was the only “big thing” actually happening to the industry in the real world. For unlike the other glittering, if hypothetical, possibilities, the shale revolution was real: indeed, it completely disrupted the old energy market, previously dominated by opec/Saudi Arabia and, to a lesser extent, Russia.

Hydraulic fracturing, or “fracking” – the process of injecting liquids at high pressure into subterranean rocks, widening existing fissures, and extracting vast amounts of oil and natural gas – has been an undeniable game­changer. It has transformed the United States – by far its leading exponent – from a long-term energy mendicant into the largest producer of oil in the world, in the blink of a historical eye.

A world of peaks and troughs

Crude oil production in the US more than doubled from 5.5 million barrels per day (bpd) in 2010 to 12.2 million bpd in 2019. The American percentage of the combined market share of global oil products came to amount to fully 19% of the overall total, compared to Saudi Arabia’s 12% and Russia’s 11%. Last year, the state of Texas alone produced 5 million bpd of crude, accounting for 40% of the US total, which put the state’s production above that of the country of Iraq (4.7 million bpd). By September 2019, the US became a net exporter of crude and petroleum products for the first time since 1973. These figures make it overwhelmingly clear that the world has experienced nothing short of an energy revolution.

But just as startlingly as the shale revolution burst upon the geopolitical scene in the 2010s, this past year has seen utterly unforeseen existential dangers arise to challenge its perch atop the energy markets.

Even before the pandemic crisis hit, there was a global oversupply roiling the oil markets, as the three energy superpowers (US, Russia, Saudi Arabia) jockeyed for command, leading to a precipitous fall in price.

The West Texas Intermediate (wti) price (the benchmark for US crude) tumbled from $106 a barrel in June 2014 to a paltry $32 a barrel in January 2016. Then came the double whammy of the pandemic, which decimated global demand, and the oil price war, which led to over­supply at the worst possible time.

It is the self-inflicted global depression in the making – the world’s desperate attempt to forestall a global pandemic on the scale of the Spanish Flu of 1918­-1920 (which killed an estimated 50 million people) – that has most indelibly harmed shale, as demand has cratered. Global oil demand collapsed by an astounding 29 million bpd year on year in April 2020. It is unsurprising that the price of wti crude fell off the map, dropping from $51 bpd in January 2020 to $20 by March.

The oil crisis reached its nadir on April 20, 2020, known in the trade as “Black Monday”. Fears about a lack of storage capacity and about credit running out led the price of wti to fall to an incredible negative $40 a barrel. This meant that American producers briefly had to pay traders to take oil off their hands, an unheard of situation.

To meet their always dicey financial obligations, shale operators were forced to cut production and close rigs. Only 185 rigs were active in the US this July, massively down from 683 in March. Worryingly, even the stabilization of the wti price at around $40 a barrel by June failed to entice many of the dormant rigs to go back online; the break­even price of shale – even allowing for its constant technological innovation over the past decade – remains around 50­55 dollars per barrel.

The obvious result is that layoffs have ravaged the industry. Approximately 100,000 jobs – fully 20% of the total in the oil and gas sector – have been lost in the US since February 2020. More than twenty shale producers have gone under, and oilfield service workers and drilling crews are out of work. What’s more, when the price of oil nestles around $35 a barrel, it is estimated that 30% of all major US shale producers are technically insolvent. This means that they are not able to cover their liabilities with the promise of future cash flows. So, even after price stabilization, the viability of the entire shale industry sits precariously on the edge of a precipice.

The oil war

At this worst of all possible moments, the Saudis and the Russians launched a full-scale oil war. This made a terrible situation for the energy market downright catastrophic, as extra production flooded the already saturated market with new and utterly unnecessary supply.

Russia joined opec­-plus in 2016, specifically to protect the overall global price of crude from the supply shock created by the shale revolution. However, over the next four years, to the frustration of Vladimir Putin, the production cuts put in place by opec­-plus, while stabilizing the price, did not stop US shale from gaining an ever greater energy market share. Unhappy with the results of opec­-plus, the Kremlin decided to bolt from the pact.

On March 8, 2020, in frustrated response to Russia abrogating its unofficial alliance with opec and reneging on its promise to refrain from over pumping so as to keep prices higher, the Saudis abruptly shifted gears. Riyadh, the only major oil power capable of significantly ramping up production at will, vowed to increase its oil flow by 2 million bpd by April, in an effort to punish a recalcitrant Moscow with cratering prices.

Shale was caught in the oil war’s crossfire. Just one day later, on March 9, the price of wti crude collapsed by fully 25%, falling from $41 to $31 a barrel, the single largest drop in one day since 1991. In the end, the Saudis more than kept their word, increasing their oil production from 7.4 million bpd in March to 10.3 million bpd in April, an increase of almost 3 million bpd. Beyond chastising Russia for leaving the opec­-plus alliance, Riyadh – once it saw the suffering it was causing the shale industry – hoped to recapture some of its lost global energy market share, which had been steadily eroding over the past decade.

But the Saudis forgot a basic lesson of the energy market: it is driven as much by geopolitics as it is by macroeconomics. Under intense pressure from his political base to save the shale industry, Donald Trump bluntly re­minded the Saudis of their longstanding alliance with the US, and that the decimation of the shale industry would call these primary ties into question. Pushed into a room by Trump, Saudi Crown Prince Mohammed bin Salman and Russian President Vladimir Putin quickly reached an agreement, resurrecting the opec-­plus alliance. This satisfied the Saudis while also saving the shale industry, Trump’s great imperative. opec­-plus agreed to an overall cut of 9.7 million bpd on April 9, which took fully 10% of global oil off the market, thereby stabilizing prices.

President #Putin spoke with Crown Prince of #SaudiArabia Mohammed bin Salman Al Saud: Broad expansion of bilateral ties, implementation of #OPEC Plus agreements, coordination aimed at maintaining stability in global #energy market, situation in #Syria and #PersianGulf on agenda. pic.twitter.com/z3dfSxcla7

— Russian Embassy, UK (@RussianEmbassy) February 16, 2021

Shale: the once and future king of energy?

So, is the shale revolution already over? Was it an interesting but historically transitory phenomenon, laid low like the dinosaurs by the twin asteroids of the ruinous Saudi-­Russian oil war and the global coronavirus pandemic (and the resulting collapse in demand)?

Much as I saw that the shale revolution was underrated over the past decade, even as it became a reality, today I think it unwise to bet against the industry’s resurrection.

Let us wind our way through the intellectual maze of shale’s present predicament. First, its two existential threats (the ruinous oil war and the pandemic induced drop in demand) are not equal. The moral of the oil war story is that, given America’s pre­eminence in the world (particularly regarding its close strategic ties to the kingdom of Saudi Arabia), the White House – when push comes to shove – can upend any efforts by the other two oil superpowers to finish off the shale revolution. Direct US pressure put an end to the oil war; the machinations of the other two oil superpowers do not represent a dagger pointed at the heart of the shale industry in some sort of structural way.

Second, while the collapse of demand due to pandemic induced economic calamity is a far more daunting challenge for shale, even this should not be overestimated. That collapse is not necessarily a harbinger of the four horsemen of the apocalypse. Presently, the US Energy Information Agency predicts the country’s oil output will decline by 700,000 bpd this year, and a further 300,000 bpd the next. To put this in perspective: in 2021 American crude oil production is still expected to average 11 million bpd—2 million less than the March 2020 high, but still a number that until very recently would have been considered utterly fantastical. So, while the ever upward trajectory of the shale revolution has been significantly dented, this is far from an extinction event.

Third, of course there will be a highly significant economic recovery from the pandemic, as the artificial closure of the world gives way to far more economic activity than happened at the height of lockdown. While things will never return to “normal” (history doesn’t work like that, always being impacted by events as they occur in real time), there will undoubtedly be a highly significant upsurge in economic activity. The recovery may be V­shaped, or it may be slower, but it will surely spark global energy demand. And this will only help shale.

Fourth, technically, a great advantage of shale rigs over the fixed rigs that dominate Russian and Saudi production is that they can be turned on and off easily and at acceptable cost. This means that US shale is more resilient than is either Russian or Saudi oil. It can withstand troughs in price and quickly take advantage of peaks. To use our dinosaur extinction analogy again, shale amounts to the mammals on the scene: they are smaller, more 45 agile companies (especially compared to the behemoth state owned enterprises in Russia and Saudi Arabia), and clearly better equipped to resist catastrophe.

Fifth, and finally, the private sector nature of the American shale industry never seems to be factored in by energy analysts. There is a fundamental difference between genuine capitalism and the clunky state sponsored sort, which is great news for shale’s future prospects. Anyone who has seen the movies Giant or There will be blood knows that the visionary wildcatters who invent and develop innovations in the energy industry are not necessarily the guys who reap the lion’s share of the economic benefits in the end. “Eastern money” often swoops in during hard times, buying out these first-generation pioneers, and uses their significant cushion of resources to defend the industry through tough times, only to grow it when the economic skies brighten. But the wells and the oil, while changing ownership, do not cease to exist. Whether it be big oil companies like Chevron and ExxonMobil or equity and hedge funds buying up the shale wildcatters, the bankrupt companies do not mean the end of the energy industry. It only means that the shale deposits will find new owners. This is the genius of capitalism: creative destruction allows for innovations like the shale revolution to endure. So don’t count us shale out just yet. Far from it. For all the reasons outlined here, look for this most resourceful of industries to bounce back with the rest of the world.

This text has originally been published in our Italian sister-journal Aspenia.