Cash in on the second great American oil rush

An oil rush is underway in the US as ‘fracking’ makes previously uneconomic oil cheap to extract. And there’s plenty of profit to be made for investors who know what to buy, says Matthew Partridge.

On 10 January 1901, the first oil gusher' eruptedfrom a well in Beaumont, Texas. It spewed 80,000 barrels of oil in a day, at a time when 50 barrels was considered a lot.

The production of this one well was greater than the rest of the US put together. It proved beyond doubt that there were huge amounts of oil in the region.

Even though production at Beaumont quickly fell back to 10,000 barrels a day, the boom continued.

Subscribe to MoneyWeek

Subscribe to MoneyWeek today and get your first six magazine issues absolutely FREE

Get 6 issues free

Sign up to Money Morning

Don't miss the latest investment and personal finances news, market analysis, plus money-saving tips with our free twice-daily newsletter

Don't miss the latest investment and personal finances news, market analysis, plus money-saving tips with our free twice-daily newsletter

Sign up

People flocked to Texas, attracted by the prospect of striking it rich'. Towns in oil drilling areas sprung up overnight, and property values soared. Ever since then, Texas has maintained its position as America's top oil producer.

But now Texas' pole position is under threat.

Another great American oil rush is underway. And just like last time, there's plenty of profit to be made for investors who know where to put their money

Texas is in danger of losing its oil crown

Thanks to the shale gas and oil boom, Texas' status as America's top oil producer is under threat. In the past two years, North Dakota has moved into second place, overtaking Alaska, and the new oil rush is transforming its economy.

The boom is centred on the Bakken formation. Bakken is a rock formation covering 200,000 square miles (that's twice the size of the UK) in North Dakota, Montana and Canada.

Oil was first discovered in the rocks in 1950. But experts thought it would cost too much to get the oil from the rock, and that only a tiny fraction would ever be recoverable in any case.

Of course, soaring oil prices helped to change the cost equation. And technological advances in the form of hydraulic fracturing (fracking') meant more oil could be recovered.

Starting in 2007, several companies started to use fracking to extract oil cheaply. Others jumped on the bandwagon. As a result, production in North Dakota has shot up.

In January 2007, North Dakota produced a total of 3.56 million barrels of crude oil, according to the US Energy Information Authority. Six years on, this has risen more than sixfold, to 22.87 million.

Meanwhile, estimates of the oil that's still to be had just keep rising. As late as 2008, the state of Dakota thought that no more than 2.1 billion barrels would be recoverable. That's impressive, but not game changing. However, the latest official guess, released a few days ago, is that the figure may be more than three times higher.

This has already had a dramatic impact on North Dakota's economy. Since 2000, nominal (ignoring inflation, in other words) state GDP has gone up by 120%. The labour market has also grown strongly, with wages rising by 80%. Currently, unemployment is only 3.3%, compared to a US-wide figure of 7.6%.

Those are impressive statistics. To get a more human impression of what it's like on the ground, I talked to Robert Gavin, the managing director of Property Horizons, a company which is investing in accommodation in North Dakota.

The biggest impact has been on the oil industry labour market. Oil rigs don't run themselves - they require skilled workers willing to work long hours in demanding conditions. As a result, companies are offering high wages for even low-ranking jobs.

Given that much of the rest of the US is in near-recessionary conditions, the promise of decent wages has drawn people from all over the country. Even so, the firms have had to cast their net worldwide. Gavin notes that during his visit to Dakota last year he saw oil workers onsite from as far afield as Brazil, Africa and Japan.

Of course, all these workers need places to stay and places to eat. So the services sector in nearby towns is also booming as the new arrivals start to spend their wages. According to Gavin, local restaurants are packed out from 10am to 4pm. Those who work in fast food branches close to the rigs are reportedly being paid up to four times the minimum wage.

The big risk: energy booms always turn to bust

The big risk is that energy booms have a tendency to turn into busts. North Dakota has gone through this cycle several times over the past few decades, both over coal and then oil during the energy crisis. Last year, there were fears that falling natural gas prices would result in the shale gas industry collapsing.

But while shale gas has certainly battered prices, they are starting to rebound. After hitting a bottom of $2/MMBtu last year, gas prices are now over $4/MMBtu. Robin Batchelor of the BlackRock New Energy Fund thinks that this is a price at which shale gas producers can make a reasonable return.

At the same time, while oil prices may go lower in the future, the US is hardly going to turn its nose up at a ready supply of oil from a reliable domestic source. In short, we think this boom is set to continue.

We've recommended various ways to play natural gas in the past. But one interesting way to benefit is by investing in property in North Dakota. The influx of so many people in such a short space of time has created an acute shortage, driving up prices. Dormitories and trailers are only stop-gap solutions.

So it seems likely that any firm building apartments will find it easy to either sell them, or quickly rent them out. One way to invest is via Investors Real Estate Investment Trust (NYSE: IRET). The company builds and leases apartments and some commercial space.

At the moment, a third of its residential complexes are in North Dakota, with the rest in the upper Midwest. However, it plans to increase its presence in the state quickly. It is very close to completing several major projects, with two large complexes in Minot and Williston due to come into operation early next year. It has bought substantial acreage in the state for the future.

Despite the share price rising by a third in the last year, it still pays a very healthy dividend yield of more than 5.3%. As a play on both North Dakota and a broader recovery in the US, we think it still looks attractive.

This article is taken from the free investment email Money Morning. Sign up to Money Morning here .

MoneyWeek TV: What's in store for house prices?

This week, Merryn Somerset Webb and John Stepek look at Britain's stubbornly high house prices. And with 2013 seeing the average baby boomer turn 55, Paul Hodges explains the significance of this anniversary for investors.

Profit from the global water shortage


The world needs more and more water, but the ready supply is drying up. Investors can profit as governments act, says James McKeigue. Here, he tips the best shares to buy now.

Dr Matthew Partridge

Matthew graduated from the University of Durham in 2004; he then gained an MSc, followed by a PhD at the London School of Economics.

He has previously written for a wide range of publications, including the Guardian and the Economist, and also helped to run a newsletter on terrorism. He has spent time at Lehman Brothers, Citigroup and the consultancy Lombard Street Research.

Matthew is the author of Superinvestors: Lessons from the greatest investors in history, published by Harriman House, which has been translated into several languages. His second book, Investing Explained: The Accessible Guide to Building an Investment Portfolio, is published by Kogan Page.

As senior writer, he writes the shares and politics & economics pages, as well as weekly Blowing It and Great Frauds in History columns He also writes a fortnightly reviews page and trading tips, as well as regular cover stories and multi-page investment focus features.

Follow Matthew on Twitter: @DrMatthewPartri