Big Investors Reconsider Oil and Gas Upside as Supplies Remain Tight

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Endowments, pension funds and other institutional investors had shunned the sector, citing climate concerns and poor returns

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Now some investors are coming back as energy emerges as the stock market’s best performer—the S&P 500 Energy Sector Index is up 40% so far in 2022—and projections that the world might face shortages in the years ahead suggest continued near-term upside for those willing to bet on fossil-fuel producers.

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The lack of new investment is one reason oil and gas supplies haven’t kept up with surging demand and the loss of output caused by the Russian invasion of Ukraine.

The short-term factors and a growing realization that new supplies will be crucial, even as the world transitions to cleaner energy sources, have some investors reconsidering their aversion to energy.

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New money could boost production, though there are other factors limiting supply. And any increase in investments will likely be modest, as some groups such as college endowments or public pension funds continue to stay away.

Last year, when the Houston private-equity firm Quantum Energy Partners met with big investors ahead of a potential new fund launch, it heard concerns that the transition to cleaner energy sources meant there would be little need for new oil and gas development, says Wil VanLoh, Quantum’s founder.

After the Ukraine war began and European nations started feeling pressure to locate new energy supplies, Quantum began fielding calls from many of those same investors—they were expressing interest in oil and gas once again. The firm recently began fundraising for a new fund with a target size of $5.6 billion. Quantum also plans to start an energy-credit fund in the midst of growing interest from investors.

“The difference in tone and receptivity since the Russian invasion has been amazing—it has been a 180-degree change in three months,” says Mr. VanLoh. “Last year, we had to convince people the oil and gas business would be around in five to seven years.”

Southern Methodist University in Dallas was among those that shied away from new deals in recent years. Like others, it had lost money from investments made before the 2015 downturn. Now the university is considering new investments in US oil and gas producers, including new projects, and is likely to announce new investments in the months ahead, says Brad Demicco, SMU’s director of private markets.

“For a long time there were crickets in the industry,” Mr. Demicco says. “The uncertainty surrounding energy was mind-numbing and endowments and others stepped back from energy, but there is new interest and investments are coming.”

The new money won’t lead to a near-term burst of production, suggesting prices could stay elevated for a while, as long as the US and Europe don’t fall into a recession. Over time, though, the new investments will boost oil and gas supplies, helping put a lid on prices, analysts say.

“The combination of high commodity prices and increased geopolitical relevance is forcing many institutional investors to rethink their aversion to hydrocarbon investments,” says Dan Pickering, founder of Pickering Energy Partners. “The upside is too compelling to ignore, so they are dipping their toes back in the water.”

A string of energy deals, including March’s merger agreement between the rival shale drillers Oasis Petroleum Inc,

and Whiting Petroleum Corp,

, has helped spark investor interest. Acquisitions in the energy industry can be a sign of health, some investors say, suggesting that executives have confidence about future prospects.

More-hospitable capital markets will likely encourage energy companies to drill more oil and gas wells, analysts say. But factors stand in the way of any surge, such as the difficulty many companies face in finding labor and rising costs for fracking sand and equipment.

At the same time, it is hard to determine how long investors will keep betting on energy prices, which have been volatile lately. And if the US or European economies slow, or enter recessions, energy prices will likely come under further pressure.

“There has been a slight change in investor appetite,” says Tomas Ackerman, a partner at Carnelian Energy Capital, a Houston-based private-equity firm that last month closed on a $975 million buyout fund that will primarily focus on traditional energy investments.

As it marketed the fund, Carnelian had a tough time attracting new university endowments, which are feeling pressure from students and others to avoid oil and gas investments. But other investors showed interest in the fund, including some large pension plans that aren’t feeling the same pressure to avoid the industry and wanted to invest in firms that increase domestic energy production in an environmentally conscious way.

“The importance of energy security and energy poverty is taking a more prominent place in people’s psyche after Ukraine,” Mr. Ackerman says. “That said, the floodgates of new capital haven’t opened up.”

An indication of continued caution about energy: Shares of oil and gas companies, including producers and integrated-oil companies, show among the highest levels of net new shorting of all sectors, according to the research firm Two Rivers Analytics, a sign that some investors believe there is too much enthusiasm lately regarding the industry.

Still, the pessimism that pervaded the business in recent years has lifted, which will likely aid energy producers.

“Last year it was like pulling teeth getting people to talk to us,” says Sam Oh, who runs Mountain Capital Management LLC, an energy-focused private-equity firm in Houston that is raising money for a new fund. “Starting around February, people began calling. Now we have a call every week.”

Write to Gregory Zuckerman at [email protected]


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