Economists from Malthus to Keynes to Greenspan would have us believe certain economic laws are immutable. But driving round pegs into square holes is hard work, and not always rewarding, or even possible. When things do not track as they should, it is more often time to change the immutable law than to adapt circumstances to the law. One change required might be to the cyclical law of the oil and gas industry. That is because oil prices and the oil industry are not acting as they did in previous boom-and-bust cycles.
Last year - it goes without saying - was a banner year for the industry. Record profits, driven by almost unbelievable oil and gas prices, meant that practically no one had a bad year. But that, contrary to common investment theory, did not translate into improved stock performance. Indeed, stock values of almost all operators and service and supply companies languished. With large cash inventories and still-pared capital expenditure programs, many companies have gone on stock buy-back sprees. That made only a small dent in the cash inventory, and that is not likely to last.
But companies cannot sit on large cash inventories while their stock underperforms. Most exploration and production companies, save Shell, have announced only modest spending increases for 2001. These will not significantly diminish the large stocks of cash. So what to do? A good bet is to return part of the cash to the shareholders in the form of larger or special dividends. But only part.
As good a bet is burgeoning investment in the slowly opening Middle East, where costs are low, wells are often prolific and profits generally handsome, even at moderate oil prices. It is a scenario encouraged by the Middle Eastern countries. Already, Saudi Arabia has warmed to foreign investors, and Kuwait is making the same noises. The incoming US presidential team could well fuel Middle Eastern investment. Vice President Dick Cheney has been particularly vocal about the detrimental effects of trade and investment bans created in 1996 under the Iran-Libya Sanctions Act. The act will expire in August unless renewed. It is almost certain that, with little political ramification, the Bush administration will allow the act to die.
This is all the more important because Opec still appears to have its act together. Further quota cuts may be expected as the group tries to maintain mid-$20s oil prices. The only risk to their plan is continuing unrest in the Middle East. Barring that, and the consequent spike in crude prices, oil prices should be maintained in the mid-$20s. At that level, there is still good money to be made, with most companies as yet budgeting for no more than $18/bbl oil.
The scenarios, played together, are the round peg in the square hole. The square hole is the cyclical nature of the oil and gas business, often derided but nonetheless a factor of the business until recently. But the round peg - the current scenarios of fiscal conservatism, political conservatism and sustainable, reasonable prices - will not fit. These factors could propel the industry right past its next downward cycle.
Or not. If the factors can be kept operable, it is a good bet the cyclical nature of the business will moderate. To maintain the current situation requires consummate restraint, a trait not often associated with the oil and gas industry. Nonetheless, the fiscal conservatism and the lack of a serious crack in Opec unity over oil price stability, are novel for those of us who remember the roller coaster rides in the '60s, '70s, '80s and '90s. Barring Middle East unrest or worldwide recession, the cyclical law might change. If the cycle is broken, it will be something to tell our grandchildren.