During the Financial Sense News Hour's Energy Report, host Jim Puplava shared with us some huge news that could set the energy markets on fire, when it becomes widely disseminated.
Here is the scenario. Oil demand is growing at an estimated 2% per year, and is expected to double, according to the International Energy Agency, by 2030.
And yet, according to the October issue of Petroleum Review (http://www.odac-info.org/bulletin/documents/PetReviewOct2005.pdf) "the world's largest publicly quoted oil companies are now really struggling to hold production levels, with only a few managing to maintain their market share of global production."
And it gets more interesting. According to the article, BP has surpassed ExxonMobil as the largest producer in the world, while "in the first half of 2005 the top five, the top ten and the top 22 publicly quoted oil companies all produced less crude and NGLs [natural gas liquids] than they did in 2004 and only slightly more than they did in 2003 and 2002."
In a second report Petroleum Review (http://sydneypeakoil.com/downloads/PR_OCT2005_Megaprojects.pdf) concludes that "the world has now reached the point the volumes lost to depletion are much larger than the levels of likely new demand."
The review, citing oil company data, concludes that annual depletion of reserves, based on the normal loss of capacity in an oil field (Type 1 depletion), when lost production from one site can be offset by increased production from another site (Type 2 depletion), and when a country produces less oil in one year than it did in a previous year (Type 3 depletion) can be reasonably averaged to be about 5%, while demand growth, despite "rapid swings" can be estimated to be around 2%.
If depletion is occurring at 5% and demand growth is at 2%, that leaves a 3% gap in supply to be filled, if we use the old back of the napkin approach. And that means that there isn't enough oil available to meet the projected demand, thus, if we follow this logic, we are living in the early stages of the Peak Oil phenomenon.
Depletion Is Widespread
The problem is spread throughout the industry and the world.
According to Petroleum Review: " There is only limited public data available, apart from the North Sea, where decline rates of between 5% and 15% are reported and are typical of the main decline phase...There have also been reports (not fully corroborated) of 7% declines in Iranian fields and 6% declines in Saudi fields. Offshore fields, which, because of their economics require high flow rates and much more rapid and intensive development, tend to have the most rapid decline rates – often as much as 15%/y."
According to China's Xinhua, "The International Energy Agency said oil prices could rise a further 50% by 2030 if Saudi Arabia does not muster the political will to invest billions of dollars in new production. In an interview with the Financial Times, Fatih Birol, the group's chief economist, said that Saudi Arabia might not make the investment needed to ensure production meets strong demand growth in China and India."
Indeed, Peak Oil, which is what may be under way, if the Petroleum Review data turns out to be more than just an academic exercise, might be as much a man made phenomenon as a natural depletion story. Here are two interesting thoughts from Xinhua: "The IEA said Saudi Arabia would need almost to double current output of 10 million bpd to meet the expectations of demand in 2030. But Birol said the kingdom might muster the long-term political will only to produce just over half the extra barrels deemed necessary. Iran and Iraq are also vital to ensuring adequate oil and natural gas supplies in the next 25 years. But both face political hurdles to achieving the necessary investment. Many Middle East countries fear that investing heavily in new oil supplies will deplete fields too quickly and cut revenues by depressing oil prices."
Yet, these are the places where there is significant amount of turmoil in the world, and where local tribal disputes going back thousands of years, and the exportation of radical violence seems more important than the global economy.
Recent comments about Israel by Iran's president, Mahmoud Ahmadinejad are according to the Washington Post "raising concern that he intends to steer his country back to the isolation of the early 1980s, a period of radical absolutes that he frequently invokes as an ideal."
Indeed, Iran is a study in confusion, as it is seeking investors to help fund its controversial nuclear program, while at the same time it a revamping its international diplomatic core by replacing 40 ambassadors and diplomats, and has recalled its ambassador to Rome in response to reports that Italian officials were about to join a public protest outside the Iranian Embassy.
Alternative Energy Sources
Two major reports were barely mentioned by the major media this past week, which are hugely relevant to the current dynamic, and one story is still emerging as we went to press.
The U.K. is making a major move toward biofuels. According to the U.K.'s Independent: "Every British motorist will soon be driving on petrol made from sugar beet and diesel made from oilseed rape as part of the Government's fight against climate change. Biofuels, which are made from crops and do not add to the emissions of carbon dioxide (CO2) causing global warming, are to become an everyday feature of UK road transport, in the biggest fuel shift since unleaded petrol was introduced more than 15 years ago. The Government is drawing up a biofuel obligation, which will require oil companies such as Shell and BP to blend a fixed proportion of biofuels - initially 5 per cent - with all the petrol and diesel that they sell on garage forecourts."
According to the report: "Under the new proposal, all UK petrol will be blended with ethanol, a fuel made from sugar beet or wheat, and diesel will be blended with biodiesel made from oilseed rape or recycled vegetable oil."
The U.K. report, when added to recent developments continues to have a major influence on falling oil prices.
Ford, on November 4th, announced a partnership with Verasun Energy Corporation, to "expand the fueling infrastructure to support flexible fuel vehicles (FFVs) capable of running on up to 85 percent ethanol (E85)," by increasing the number of gas stations which carry the blended fuel, whose use is growing in the Midwest U.S. According to a Ford press release, there are now over five million FFVs on the road, with one million Ford produced vehicles, that are capable of using E85, a blend of 85% Ethanol and 15% gasoline, as a fuel.
According to the Ford Press release: "The Ford/VeraSun partnership will concentrate on growing the E85 infrastructure in 2006. The initiative will serve to convert existing fuel pumps to VeraSun's branded E85 -- VE85 -- in existing retail outlets. A consumer awareness campaign to promote the benefits and use of E85 will also be launched. Local retail outlets and Ford dealerships will be asked to participate in the campaign." Verasun, www.verasun.com, is a closely held company headquartered in South Dakota, but is worth keeping an eye on.
Also important biofuels giant Archer Daniels Midland (NYSE:ADM), on October 4th, announced that it would start building its "first wholly-owned biodiesel production facility in the United States. The 50 million gallon facility will be located in Velva, North Dakota, near the existing ADM crushing facility, and will use canola oil as its primary feedstock. ADM is also a partner in Mid-America Biofuels, LLC, which has recently announced plans to build a biodiesel production plant in Mexico, Missouri." ADM, is in fact, continuing its push into biofuels, a fact that we were among the first to disclose in "Successful Energy Sector Investing."
According to the company's press release "Biodiesel is a vegetable oil-based fuel made from renewable crops that burns cleaner than traditional petroleum-based diesel fuel. Biodiesel works in diesel engines, improves air quality by reducing greenhouse gas emissions and is a growing fuel source for the world."
The biofuel movement is starting to gather major steam, and seems to have garnered the support of the U.K. government.
The concept of Peak Oil continues to gather steam. It is controversial, but is becoming increasingly difficult to refute, and for investors, it is increasingly hazardous not to take it seriously.
At the heart of the matter is whether the world is truly running out of oil, or whether there is still enough oil to be had, that is no longer easy to extract. Among the major reasons for the decrease in production remain the political difficulties that oil companies encounter in places like Africa, Iran, and Iraq, where reserves are still plentiful. The situation in Venezuela, is also increasingly tense, as President Hugo Chavez, has cast himself as the "anti-Bush," according to some sources.
Thus, the major question for investors and oil companies is whether the risk of going to places like Iran is worth the price of oil. As we've said many times before, why would a company spend $50 to sell something for $40? To be sure, the equation has not tilted that far yet. But, if governments in countries like Iran continue to spout off radicalism, and if pirates continue to attack cruise ships, and food supply ships from the U.N., as recent reports indicate on the coast of Africa, we could see a scenario where oil companies continue to increase their reservations about taking risks in hostile lands.
Indeed, we could we witnessing history in the making. In fact, what is happening is that OPEC, and non OPEC producers, mostly countries with major political problems and active resistance movements within are whistling past the graveyard. Instead of improving their oil production infrastructure, whether internally through reasonable partnerships with foreign oil companies, they are worried about self preservation, which in many cases is mostly about self interest, and are losing sight of the big picture.
If there ever comes a time when ExxonMobil decides to move into alternative fuels aggressively, and begins to consider oil exploration and production as a secondary business, there are going to be some significant repercussions in the developing world, as countries that depend on Western, and increasingly on Chinese oil demand for the majority of their revenues, will find themselves out in the cold.
To be sure, this is not going to happen all at once. And it won't be noticeable for a few years. But, the seeds are clearly planted, and this time is different, as the news from Ford and Archer Daniels Midland clearly attests to.
Fatih Birol, the chief economist of the International Energy Agency, recently noted: "We may end up with much less oil from the Middle East than we demand. There is substantial risk of substantially high oil prices if current investment in the Middle East is not stepped up substantially. Such high oil prices would be an additional trigger for major consuming nations to introduce policies to save oil and look for alternative sources. If they don't, the global economy but mainly the economies of the consuming nations will suffer."
What Mr. Birol is saying, is that OPEC, and the rest of the world's oil producers, are on the verge of a major shock.
The mainstream view is that Peak Oil will lead to a price of $100 per barrel for oil. What the markets are saying, as traders continue to sell oil futures, is that despite economic expansions in China, the U.S., and Latin America, there is no reason, at least not in the near future, even if we are now into the era of Peak Oil to take prices back to the $70 area.
And while we all know that it could all change tomorrow, we get the feeling that we haven't heard the last of this.
Oil Market Summary: Biofuels on the Verge of Mainstream Stardom
Crude oil prices were falling overnight, while natural gas is on the verge of breaking below $11, and gasoline looks headed for a test of $1.55.
For those who are wondering why oil prices are falling, the answer could be in sugar beets, corn, and wheat, the feedstock for biofuels, the new buzzword in the energy world.
The move toward biofuels seems to be gathering steam. According to the U.K.'s Independent, a major initiative toward biodiesel and ethanol is taking place in the U.K., as "all UK petrol will be blended with ethanol, a fuel made from sugar beet or wheat, and diesel will be blended with biodiesel made from oilseed rape or recycled vegetable oil."
Aside from decreasing Britain's dependence on fossil fuels, the environmental impact is expected to be very positive. "The new mixes will make little practical difference to the motorist - they will go straight into standard engines and will not push up pump prices because of lower Treasury duty on biofuels - but they will make an enormous difference to Britain's carbon emissions. Replacing 5 per cent of Britain's standard road transport fuel consumption with biofuels is calculated to save a million tons of emissions annually, out of Britain's current total of 155mtC (million tons of carbon). "
There is a major push by the Tony Blair government behind this. Elliot Morley, the minister for Climate Change, "said he hoped its announcement would kick-start a domestic biofuel industry in the UK. At present, Britain produces a small amount of biodiesel, mainly from small plants, but no ethanol at all, and most of the biofuel required under the obligation will at first have to be imported from countries such as Brazil, which produces large amounts. But that is likely to change quickly."
And the move is starting to gather steam. " Although British biofuel production is low, consumption is growing, and biofuel 5 per cent blends are starting to become available, especially in the south of England. Biodiesel blends are available at more than 150 outlets and ethanol-petrol blends are available at some Tesco supermarket sites, although the oil "majors" such as Shell and BP do not retail biofuels as yet. "
Our very long term opinion on oil has not changed. We are still in a very long term bull market in oil, until proven otherwise. The long term line in the sand, for us, remains $40 per barrel. That means that prices can correct to $40 and we could still be in a long term, secular bull market. If prices were to fall below $40, then the very long term trend will have likely reversed. Shorter term, if crude prices fall below $56, we could see a major move toward $40 gather steam.
The Philadelphia Oil Service Index (OSX) had a very negative chart reversal on November 4th, and could fall further.
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