Thoughts on US shale space, global gas markets
On Sunday, Chesapeake Energy, the pioneer shale gas producer based in Oklahoma City, filed for Chapter 11 US (financial reorganization) bankruptcy protection. It would be wrong to draw too many conclusions from Chesapeake and the US shale space to gas markets in the rest of the world. Other than LNG (liquefied natural gas), gas markets are inherently local which is why one has to look at gas through a different prism in North America, Asia, Europe, or the rest of the world. As for the US, Chesapeake was one of the leaders in the shale breakthrough more than a decade ago. Its fate highlights the woes of that space.
Companies such as Chesapeake turned the fortunes on the US hydrocarbon sector around, propelling the country into a dominant global energy player. Chesapeake was for a time the second-largest gas producer in America. The ready availability of relatively inexpensive gas ushered in a new era for US industry and its productivity.
Fortunes started to turn for shale oil and gas producers when OPEC opened the taps and for a time abolished quotas in 2014. Oil prices fell, which was bad news for shale producers, which have a higher cost of production and have huge needs for liquidity, because fracking is not cheap and wells have a short life span necessitating constant drilling of new wells a few miles over.
In response, entrepreneurial shale producers adapted and lowered production costs every month until the shale space became competitive again.
The coronavirus disease (COVID-19) pandemic and the collapse in demand for oil and gas again led to a price deterioration. Few will forget April 19 when the price of West Texas Intermediate (WTI) briefly fell to minus $37 per barrel — a deeply traumatic moment for any oil producer.
Chesapeake’s share price is a good example of the state of the shale space. It briefly flirted with $13,000 in the summer of 2008. It now trades at $11.25. There was a lot of volatility between then and now.
Chesapeake’s filing for Chapter 11 may open the floodgates for other companies to follow. The sector as a whole faces $300 billion worth of write-downs this year, according to Deloitte. Many more companies are in deep trouble, especially as they tend to be highly leveraged and cannot afford to service their debt.
The current situation will not hail the end of the US oil and gas shale space. Bankruptcies will lead to consolidation. Big oil and gas will be among the winners, because they have the balance sheets to stem acquisitions. Other players will also gain more prominence and new companies will emerge.
So much for the US. As gas is a regional player, how about the rest of the world?
When looking at the global demand picture, gas was not as heavily impacted as oil by the COVID-19 lockdown, but it was far from immune. According to the International Energy Agency, global gas demand will fall by 4 percent in 2020, the deepest decline on record. A hot summer in the US will be good news for gas demand. Elsewhere things may look less optimistic. The headwinds for gas are growing for different reasons.
Gas has benefitted from global substitution efforts for coal. It saw a particular increase in China when the central government wanted to clean up the environment.
There is a danger that local governments in China will invest again in new coal power production because it is easy to do so and relatively cheap. The same holds true in some other countries such as India, Vietnam, and Indonesia. This does not mean that gas is out, just that there is competition to building new gas-fired powerplants, both from coal as well as from renewables such as solar and wind. The latter have a lower carbon footprint than gas and are quickly establishing themselves as a low-cost alternative.
Particularly in Europe, gas is increasingly coming under fire from environmental lobbies, which prefer renewables. This is evidenced by the EU’s “green deal,” a major investment project which also focuses heavily on renewables.
The contraction of gas demand due to the COVID-19 outbreak and the uncertainty over future growth projections do not constitute the end of gas, but the industry will change and the climate will become increasingly difficult as more countries tighten their regulations on CO2 emissions.
Chesapeake is a good example of the woes in the US shale space. Gas markets in other parts of the world face issues too, but they are different. One size does not fit all.