Josh Young: Energy Value Chain Analysis (Offshore & Onshore)

Episode Summary

Executive Summary: Josh Young of Bison Interests argues that oil and gas investing is a complex, cyclical craft requiring deep industry knowledge, not simplistic valuation screens. He is constructive on offshore and selective onshore opportunities, emphasizing technology, decline rates, replacement cost, solvency, and capital allocation over headline multiples. He also explains why institutional capital remains underallocated to energy despite strong returns.

Main Topics: Learning Oil & Gas Investing Requires Time, Humility, and Cycles (Priority: 5/5): Young says the sector cannot be mastered quickly because technical, geological, operational, and macro factors interact. He stresses that losses and cycle experience are often necessary to build real competence. Onshore Shale: Productivity Decline, Technology, and Cost Inflation (Priority: 5/5): He argues shale is becoming harder and more expensive to develop, with declining well productivity partially offset by technological innovation and higher prices. He warns against overly Malthusian narratives but says cost curves are rising. How to Analyze Upstream Names: Valuation, Decline Rates, and Capital Efficiency (Priority: 5/5): Young contrasts large-cap Devon with smaller Vital Energy to show why P/E is misleading and why investors should focus on production trends, decline rates, EV/EBITDA, free cash flow, and operational execution. DUCs and Service Market Tightness (Priority: 4/5): He explains drilled-but-uncompleted wells as working capital that has been burned down, increasing demand for rigs relative to frac spreads and contributing to service cost pressure and changing activity patterns. Offshore Is Being Repriced by Demand and Replacement Cost (Priority: 5/5): Young sees offshore as compelling because rigs and vessels are increasingly tied up by Middle East, Guyana, and Brazil demand, pushing day rates higher and improving economics for certain asset owners. Portfolio Construction, Asymmetric Bets, and Position Sizing (Priority: 4/5): He describes a barbell approach: core positions with downside protection plus small, high-upside bets that can go to zero. He sizes gradually and uses data to calibrate expected value. Institutional Underownership of Energy (Priority: 4/5): Young says top endowments and allocators still largely avoid energy despite Bison’s outperformance versus XOP, suggesting a persistent capital gap and potential for continued mispricing.

Key Arguments: Oil and gas is deceptively complex; seemingly simple supply-demand narratives hide geology, engineering, and capital-cycle realities. Investors need cycle experience and humility; no amount of reading can fully substitute for living through boom-bust periods. Onshore shale productivity is broadly deteriorating, but technology and higher prices can still unlock new supply over time. Higher costs and lower capital efficiency mean new supply is not as easy to bring on as many assume. P/E is a poor metric for upstream E&Ps because depreciation, capex, and hedge accounting distort earnings. EV/EBITDA, free cash flow, decline rates, and per-share capital allocation are more informative for E&P analysis. DUCs have been drawn down, making rigs more important than frac spreads in some parts of the cycle. Offshore demand is being driven by long-term rig commitments in Saudi Arabia/Middle East plus deepwater activity in Guyana and Brazil. Replacement cost matters more when utilization is rising and asset supply is tightening. Survivability and refinancing risk are critical in offshore; solvency can matter more than valuation alone. A portfolio can rationally include a small set of high-risk, high-reward bets if expected value is positive and sizing is disciplined. Energy remains underowned by large institutions despite strong performance, suggesting capital allocation is still constrained by ESG and inertia.

Data Points: Bison Interests performance since inception: up 130% net since May 2015 - Young cites this to show long-term outperformance of his energy-focused strategy. XOP performance since May 2020: down approximately 30% - Used as a benchmark showing weak sector ETF performance. Devon production reaction to earnings: stock down about 12% at one point; roughly $5 billion market cap destroyed - Market punished Devon after disappointing oil production and guidance. Devon oil production change: down about 4–5% quarter over quarter - Example of declining output despite high expectations and strong acreage. Vital Energy decline rate: around 25% to 30% excluding acquisition announced yesterday - Young notes Vital’s decline rate is much lower than Devon’s. Devon decline rate: close to twice Vital’s decline rate - Illustrates why output decline can be more severe even at a large producer. Devon acquisition valuations: around 3.5x EBITDA recently - He cites rising M&A multiples in the Permian and broader shale market. Vital EV/EBITDA relative position: around 1.8x consensus, low end of peer range - Used to argue Vital appears inexpensive relative to peers. U.S. onshore rig count: about 800 rigs - Approximate market-wide onshore drilling activity level. U.S. pressure pumping equipment count: about 280 to 300 frac stacks - Shows rig-to-frac spread imbalance and DUC drawdown. High-end onshore rig day rates: low $40,000s per day - Top-spec rigs, though rates may be easing slightly. Lower-end onshore rig day rates: high $20,000s to low $30,000s per day - Lower-spec but usable shale rigs. Potential short-term rig day rate change: down a few thousand dollars per day - Young expects some easing as gas rigs roll off. Natural gas price trend: fell materially in the last 6–8 months, especially last 2 months - This weakens offsets for producers and affects drilling demand. Shale productivity trend: diminishing well productivity in U.S. shale and some Canadian shale plays - Young’s high-level view on the onshore sector. Drilling rig count vs pressure pumps: roughly 2.5x to 3x as many rigs as frac stacks - Explains the DUC inventory normalization.

Pivotal Quotes: "if you want to get good at investing in oil and gas equities, first build a pyramid of cash and pour lighter fluid on it and throw it on" — Josh Young: He humorously says painful losses are often necessary to learn the sector. "Price to earnings is not a good metric for upstream oil and gas producers" — Josh Young: He explains why standard equity screens can mislead investors analyzing E&Ps. "there's this constant increase in difficulty and cost" — Josh Young: Describing shale/offshore development as an escalating difficulty curve where each new barrel is harder to extract.

Implications: The episode suggests energy remains a nuanced, cycle-driven opportunity set where the best returns likely come from rigorous fundamental work, not broad ETF exposure. Investors should prioritize asset quality, solvency, and capital discipline, while watching offshore and select beaten-down onshore names.