Workers make a pipe connection on the Orion Perseus drilling rig, Webb County, Texas. Eddie Seal | Bloomberg | Getty Images

The U.S. oil industry shook up the world energy order in the last decade, and now it has been going through a shakeout of its own that is expected to end in more bankruptcies and mergers. In the early part of this century, an upstart band of U.S. energy producers brought hydraulic fracturing, or "fracking," technology to the world. It was an American-born innovation that helped turn the U.S. from the world's biggest importer of oil into, just recently, a net exporter of oil and fuel products. In the last decade, U.S. oil production boomed as producers used hydraulic fracturing and evolving horizontal drilling technology to extract oil from difficult-to-access places and some fields that had previously been considered nearly tapped out. The U.S. is now producing just under 13 million barrels a day and has become the world's largest oil producer.

With their growing success, American drillers were able to find ready debt financing as investors were willing to gamble on the idea that wells could start producing in a fraction of the time it took more conventional drillers. That helped drive an oil glut, and global prices suffered from oversupply. The imbalance is improving, but now there are questions about how fast demand will grow. Investors have lost patience with the industry's boom-to-bust cycles. As a result, energy stocks have been among the worst performers of the decade, up just 4%, and energy debt is among the least desirable. "There's going to be a hatchet taken to these companies in the next year," said John Kilduff, partner with Again Capital. "There will be bankruptcies and consolidation. The party is over."

Market disruption

The growth of U.S. shale created a boom-town atmosphere in the places where drilling was growing most — West Texas and North Dakota. But it also disrupted the entire world oil market. In what would have been unheard of a decade ago, Saudi Arabia and OPEC forged a deal with Russia and other non-OPEC producers to control their production to support oil prices. The recent extension of this three-year-old pact has helped steady prices. Unlike many of those producers, the U.S. industry is untethered, with no government deciding production levels, and its only constraints are economic and financial. That has made life hard for U.S. drillers this year, with oil prices below their break-even level much of the year. West Texas Intermediate crude futures were at $60.81 per barrel Tuesday. "We're at the early stages [of the shakeout]. The problem is some of these companies still have a bit of rope to go," said Ken Monaghan, Amundi Pioneer co-director of high yield. "They don't have [debt] maturities that are coming up in 2020 and 2021. They're going to try to outrun the clock and hope that oil prices move higher."

Daniel Yergin, who has authored books on the evolution of the oil industry, said the U.S. industry is likely to morph now, as the industry hits an inflection point. The oil majors, such as ExxonMobil and Chevron, were slow to join the shale boom. But now they and the biggest oil independents will increasingly dominate the industry over the core of small independents and mom-and-pop oil drillers that launched the industry. Both Exxon and Chevron have announced aggressive expansion plans for the Permian Basin, the hottest shale play covering a 75,000-square-mile area that runs through West Texas and southeastern New Mexico. "It's clearly a new era for shale. The irony is the U.S. is heading for these unimagined levels of production," said Yergin, vice chairman of IHS Markit. "The U.S. industry is the world's No. 1 oil producer, and it's a major exporter, but the financial markets are giving them no credit for that anymore. The stocks were actually more highly valued when the oil price was in collapse than they are now. ... Investors and producers have to work out a new social contract." The market-imposed discipline on energy companies is not new, but analysts see it taking a new turn, with more mergers and more debt restructurings needed for the industry to emerge in healthier shape. "Most people are saying we don't want you to spend money on growth. We want you to give the money back because you guys are dummies," said Michael Bradley, energy strategist with Tudor, Pickering, Holt. "People want a return on capital. [Oil] prices today are higher than they were a year ago at this time, but cap ex is lower." With the new discipline is coming slower production growth. Analysts said part of the reason U.S. production has grown so quickly is that the payback on shale wells is much faster than conventional wells and, particularly, offshore platforms where development can take years. According to Citigroup energy analyst Eric Lee, U.S. oil production's rapid growth ramped up to 2 million barrels a day year over year in August alone. In the past week, oil production totaled 12.8 million barrels a day, up 1.2 million barrels from a year ago, according to weekly government data. Over the past 10 years, U.S. oil production more than doubled, rising by more than 7 million barrels a day since January 2010, when it was just 5.4 million barrels per day. "That's what they've wildly been doing for the last 10 years," said Lee. "The first crash happened because the world didn't need as much as was being produced." As more U.S. oil came onto the world market, oil prices fell hard in 2014 and then bottomed in 2016, at under $30 a barrel. Lee said Citi analysts expect U.S. oil production to reach nearly 16 million barrels of crude by 2023. Analysts say the price of oil will be a big determinant in how quickly U.S. output will grow and at what level it will peak.

Mergers and a debt bomb