I’m undertaking a 1000-day reinvention project, blogging here daily to track my progress. In Thursday Thinker, I share a smart idea or theory.
Year to date, energy equities have far outperformed the broad market. Just take a look at this comparison chart of $XLE (State Street Energy Select Sector SPDR ETF) compared to $SPY (State Street’s S&P 500 ETF):
XLE features the U.S. oil majors like Exxon Mobil and Chevron, as well as other oil and gas related stocks such as exploration and production (e.g., Occidental), oilfield services (e.g., Halliburton), and refiners & midstream operators (e.g., Marathon Petroleum). Year-to-date, $XLE is up almost 23% and $SPY not even 1.%!
2025 featured an oil glut narrative that just wouldn’t stop, holding down all oil and gas related stocks, including my significant holding in midstream, $AMLP. I eventually gave up on it despite its 8%+ dividend.
After the bull run to start the year, is there more outperformance ahead for oil and gas stocks? Not if the oil bears are right. They say we’re facing an ongoing oversupply of oil.
Some analysts are pushing back on the oversupply narrative, such as Dr. Anas F. Alhajji, recently interviewed on the Macrovoices podcast.
Alhajji argues that the current oil surplus is a fiction based on bad accounting, that analysts are counting barrels that aren’t available to the market. For example, the U.S. is using some barrels to refill the Strategic Petroleum Reserve; China’s strategically stockpiling oil along with gas, coal, and batteries; there’s more “oil on water” in transport but that’s because some of it is going longer distances (e.g., to China from Brazil); and the IEA has been consistently underestimating growth in US demand, resulting in an apparent oversupply.
He also shares that major supply losses have eroded any surplus that existed. Kazakhstan lost about 700 to 800,000 bpd due to attacks on the CPC terminal and nearby infrastructure. Brazil exports have declined. Iraq had to burn more oil domestically after Iran’s gas exports were disrupted by the winter storm. Meanwhile the U.S. and Mexico lost production from the same storm.
He forecasts that prices won’t rip higher because there are two lids on the market: China and the U.S. China has a pattern of releasing from its massive strategic inventories whenever Brent crosses about $70 a barrel, functionally capping prices. And the U.S. is absorbing its own production growth into the SPR, keeping those barrels off the market but not adding to price pressure.
His thinks the bears are wrong about why prices are staying low, but roughly right about where prices end up in the near term. The longer term setup is a structural supply gap as shale plateaus and decline rates compound.
Unpacking some of the details for my understanding
For background:
- WTI is priced at Cushing, Oklahoma and reflects U.S. domestic crude, light and sweet (low sulfur). This benchmark is most relevant to U.S. gas prices and its what Trump is talking about when he talks oil prices.
- Brent is the international benchmark, originally tied to North Sea oil but nos representing a broader basket. Most global oil trade is priced off Brent. WTI typically trades at a discount to Brent, usually by a few dollars.
And what are decline rates? Conventional oil fields naturally lose pressure and produce less over time. Decline rates measure how fast that happens. They’re typically around four to eight percent per year for existing fields globally, with a lot of variation.
Aljahhi says over three years, decline rates will remove ten to twelve million barrels per day from current production. Meanwhile, investment in new wells and new fields has lagged. Years of underinvestment in physical assets are setting up a future where supply can’t meet demand without much higher prices.
Shale fields have much steeper decline rates than conventional ones — often 40 to 70% in the first year — so shale requires constant drilling to maintain production.
What might this mean for would-be energy ETF investors?
I hold $XLE, $IXC, and $ENFR:
- XLE – U.S. large cap energy, Exxon and Chevron heavy
- ENFR – energy infrastructure Canada and U.S. only – about 70% of which is tied to natural gas midstream – has a different bull case based on AI-driven power demand and LNG exports
- IXC – global energy exposure
Energy stocks may continue to do well even in the case that prices are held down in the short to medium term. They’ve been cautious about new capital investment due to the long bear market in oil and can make money even with Brent prices below $70 a barrel.
Note that XLE is almost half Exxon and Chevron (42%, actually). Both are heavily exposed to the Permian Basin, a major shale producing area of the U.S. With shales decline rates and the possibility of “peak shale” it could make more sense to choose IXC instead.
Maybe will distill this into a Reckless Investing market note today! Very complicated.