"I'm sure that in 1985, plutonium is available in every drugstore, but in 1955, it's a little hard to come by." -Actor Christopher Lloyd as Dr. Emmett Brown, Back to the Future
Those who have seen Back to the Future may recall the quote above as one of the funnier lines from the film, when the time-traveling teenager Marty McFly meets the 30-years-younger version of his mentor, Dr. Emmett Brown. Who would have guessed that this eccentric scientist was somewhat prescient, foreseeing the rising abundance of energy sources across the U.S.? No, plutonium wasn’t readily available for off-the-shelf purchase in 1985. Nor is it today. But expanding domestic production of oil and natural gas reserves have led to a recent boom that seems to put inexpensive and consistent energy sources within easy reach, offering benefits to businesses and consumers, a future path to continued stable growth in the U.S. economy and opportunities to investors.
Impact of U.S. Energy Revival
The domestic energy environment has experienced substantial change over recent years. Following decades in which the U.S. consumed more oil and natural gas than it produced, new extraction techniques and greater efficiency have dramatically reduced net imports. According to EIA forecasts, the U.S. could become a net exporter of natural gas by 2016 [1] and if adjustments to federal energy policy allows, could also be a net exporter of oil.
Increased activity has an obvious impact on job growth in the energy sector, but the implications may be much more far reaching. Lower energy prices generally increase discretionary spending which could ultimately help lead to job creation across many economic sectors.
Citi estimates this multiplier effect could result in up to 3.6 million new jobs created in the U.S. by 2020 [2]. Greater consumer confidence, increased spending and lower unemployment, all positive contributors to the U.S. economy. Of all sectors that are expected to benefit, the impact to the manufacturing sectors may be most profound.
Commentators have long claimed the U.S. manufacturing sector to be dead, pointing to our $300 billion trade deficit with China as a proof point [3]. Today, U.S. manufacturing is in the midst of what could become a renaissance as American producers enjoy competitive cost advantages over foreign manufacturers. Affordable domestic sources of energy will be a contributing factor as the renaissance progresses.
However, it’s not just lower energy costs for producing goods that have helped American manufacturers to a competitive advantage. These sources of energy are also components in finished goods. For example, the natural gas byproduct, ethane, is used in the manufacture of adhesives, shampoos and plastics, and due to the abundance of natural gas, the cost to produce ethane has been reduced by more than two thirds.
Further, PricewaterhouseCoopers estimates that fracking may enable U.S. manufacturers to lower their raw material and energy costs by as much as $11.6 billion by 2025 [4]. In addition, the Boston Consulting Group projects that by 2015, the U.S. could enjoy a manufacturing cost advantage ranging from 8% to 23% over many countries including Japan, the U.K., Germany, France and Italy [5].
What this Means for Investors
Energy Sector
Investors should be mindful that sub-industries within sectors, particularly within the energy sector, aren’t homogenous. For instance, while the energy sector lagged the S&P 500 by 7% in 2013, the refining and marketing sub-industry outperformed it by 19%. The refiners are likely to take advantage of the cheap feedstock available to them, storage and transportation may benefit from infrastructure build out and exploration companies can take advantage of increased demand for natural gas. In addition to taking advantage of tactical opportunities, we recommend staying diversified within the sector.
Materials Sector
The materials sector utilizes an abundant amount of natural gas in its production cycle. As stated earlier, the natural gas byproduct, ethane, is currently cheaper in the U.S. than in any other major economy. This may give the U.S. materials sector a competitive advantage resulting in a higher global market share, potentially resulting in higher and more stable revenue. In fact, the materials sector generated greater top-line growth than any other sector over the past three years.
Consumer Discretionary Sector
More broadly, the U.S. energy and manufacturing renaissance is poised to benefit U.S. consumers. A cheaper and more stable supply of energy will increase the amount of disposable income available for discretionary spending. Additionally, business’ operating margins should benefit, enabling them to keep prices stable. This is likely to lead to an increase in consumer confidence, creating a virtuous effect. The compounding benefits of the U.S. energy and manufacturing renaissance may result in a longer and more robust consumer business cycle going forward.
Conclusion
In a way, there’s a lot of “back to the future” in the story of the current domestic energy boom. Thanks to technological advances in drilling and extraction, the U.S. is poised to continue as a leading oil producer in the years to come.
Inexpensive and abundant domestic sources of natural gas are helping U.S. manufacturers regain a competitive advantage over foreign producers and powering a renaissance in American manufacturing. Ultimately, positive impacts of growth in the energy business are likely to benefit both U.S. consumers and the U.S. economy overall by adding to job growth and increasing disposable income.
The oil and natural gas industries are pumping much needed energy into the American economy. The residual effects are likely to help the U.S. strengthen its footing both on the domestic front and around the globe, and create opportunities for investors to build wealth into the future.
[1] U.S. Energy Information Administration, Annual Energy Outlook 2013 Early Release Overview
[2] Citigroup, Energy 2020: North America, The New Middle East? March 20, 2012
[3] Ned Davis Research
[4] PricewaterhouseCoopers, Shale Gas Reshaping the U.S. Chemicals Industry, October 2012
[5] Boston Consulting Group, Rising U.S. Exports-Plus Reshoring-Could Help Create 5 Million Jobs by 2020, September 21, 2012
Timothy Rooney is vice president, product management and research for Nationwide Funds
