- Short-term oil market fundamentals are the best in years, but underlying supply dynamics make plain that such conditions are unlikely to be sustainable. Rapid U.S. shale growth in the next six to nine months is now all but inevitable, which will meaningfully increase U.S. oil supply.
- It's very possible that OPEC will extend its production cuts to Dec. 31 at its May meeting, because although shale activity increases to date are enough to generate strong U.S. crude growth, this incremental supply will take time to flow through. Supply responses from rising (or falling) U.S. shale investment take about six months--the time it takes for the average well to begin production after it is drilled. We thus believe it's likely that onshore U.S. production won't begin meaningfully increasing until the second quarter, and it's possible that it could be summertime before it becomes apparent to all market participants that U.S. crude production is on a very dangerous trajectory.
- OPEC has said that production cuts are unlikely to extend past December. The exact timing is uncertain, but the math is clear: Full OPEC production and rapidly growing U.S. output are likely to outstrip near-term demand growth and could easily tip the industry back into oversupply in 2018.
- Energy sector valuations remain a bit frothy at current levels, with an average price/fair value estimate of 1.13.
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Joe Gemino does not own shares in any of the securities mentioned above. Find out about Morningstar’s