Porter Stansberry: This could be the “pin” that pops the stock market bubble

From Porter Stansberry in The Stansberry Digest: 

In today’s Friday Digest… a brief update on America’s ongoing oil boom. You might recall back in 2011 and 2012 when we began predicting this oil boom and the coming oil glut. I famously lost a bet that oil would be trading for less than $60 a barrel by the end of 2013. I was just a little early.

Meanwhile, back then, no one thought it was possible that oil would sell for $40 a barrel. But I kept saying it was inevitable. Now, I’m wondering why oil hasn’t broken $30 per barrel yet. It will.

What has happened over the last five years in the U.S. oil patch is the most important economic event since Bretton Woods monetary system failed in 1971 and the U.S. left the gold standard. And unlike the collapse of Bretton Woods, this economic revolution is good news for America, better than anyone can yet even imagine. But there’s going to be a little turmoil first on the way to prosperity.

Since bottoming in 2008, U.S. oil production has almost doubled from 5 million barrels a day to more than 9 million barrels per day. That’s nearly a doubling of production in just seven years. The last time the U.S. produced this much oil was the year I was born – 1972. And the “doubling date” prior to this peak was 1944. It took the U.S. oil industry almost 30 years to double production. But this time it only took seven years. And these numbers are a little misleading because they don’t include other types of liquid hydrocarbons, demand for which has grown tremendously since the 1970s. When you put together all forms of liquid hydrocarbons, American supply is more like 14 million barrels per day – well over 100% more than we were producing seven years ago. How is this possible?…

The simple answer is a little bit of technology and a whole lot of money. Spending on global oil production has increased by around 350% since the early 2000s. Back then, the global oil exploration and production industry was spending around $150 billion a year on capital investments. By 2013, that figure had grown to more than $500 billion a year. In the U.S. alone, the 50 largest oil and gas production companies in 2013 invested nearly $200 billion into new production. And guess what? Markets work. They found huge new supplies of oil and gas.

Here are two charts that you need to understand and remember. The first chart shows you the total amount of oil in private storage in the U.S. Until this chart reverses course, oil prices are going to continue to fall.

The second chart shows you how many oil rigs are actively drilling for new supplies (the “rig count”) and the most current oil production figures. What you see is we’re producing more and more oil even though drilling is shutting down. That’s because most of the costs in oil production are upfront. There’s almost no incentive for producers to shut in wells that are already flowing.

That’s why it’s going to take something around six months or maybe a year before we begin to see oil production falling. And in the meantime, prices could truly crash… because we’re running out of storage.

The Peak Oil guys were right, in a way. They just left out a crucial word. They said the world was running out of oil. But we aren’t facing “peak oil.” The world is facing “peak oil storage.”

Analysts in New York are predicting that the U.S. will be out of oil storage by June. And that’s when things could get really, really ugly.

No, the coming glut (and its super-low prices) won’t last long. But the industry is in jeopardy because a lot of the capital used was raised via debt offerings. Since 2007, total debt in the U.S. exploration and production sector has gone from $125 billion to almost $300 billion. And much of this debt is destined to default.

Corporate high-yield analysts that I know estimate 15% of the total high-yield market is tied to oil and gas production. So far, the high-yield exchange-traded fund that I watch as a barometer on the high-yield corporate bond market is only down about 2% over the last month. It has much farther to fall. Over the past year, the high-yield bonds I watch are down about 4% – a significant divergence from stocks. The Dow Jones Industrial Average is up almost 10% in the same period.

Remember, sooner or later stocks (which are subordinate to bonds in the capital structure of a business) must follow bonds. And bonds are going down. So if you think (as I do) that the stock market is in a bubble phase, then this – the weak financial footing of dozens of large U.S. oil and gas firms – could be the “pin.”

Putting all of this together… the main take away is that it is far, far too early to go “bargain” shopping in the U.S. oil and gas industry. The sector is facing a huge three- to five-year shakeout as overly indebted producers must continue to produce oil – even at a loss – to generate cash flows to make debt payments. These bad debts will take a long time to wash out.

But… and this is a big but… this problem could disappear almost overnight if… and this is a big if… the Obama administration would act decisively to allow crude oil exports and lift all of the various restrictions (like the Jones Act) that make it difficult to develop a market for U.S. crude oil exports.

I believe Obama will do this eventually and perhaps in a way that allows him to proclaim himself the savior of our economy and the oil industry.

Don’t dismiss that scenario… Both U.S. presidents who ran for a third term did so on the back of soaring U.S. oil and gas production. Teddy Roosevelt’s administration oversaw Spindletop in 1901. He ran for a third term in 1912. And FDR’s administration oversaw the build-out of East Texas and the construction of the first strategic oil pipeline in the U.S. (the Big Inch). As you know, he ran for both a third and fourth term.

Oil is what powers dictators all around the world, from Russia to Argentina. I’m sure Obama is smart enough to put these soaring new oil revenues to work for him. It will be interesting to see how he does it… perhaps, for example, by sabotaging his rival’s presidential campaign with back-channel revelations about her use of unsecured e-mail servers. Mmm…

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