Scarce Whales

Oil 101 Alternative Store

2010-01-31T21:49:00.003-05:00

Amazon in the US often runs out of inventory of Oil 101 (as it appears to have over the past 2 days). As an alternative, one can order from Barnes & Noble US.

Panama to Reduce US Oil Consumption

2010-01-28T08:18:00.004-05:00

Today when a consumer on the US east coast buys a Chinese manufactured product it is highly likely it was shipped across the Pacific to Long Beach, California and then trucked using diesel fuel via road or rail across the US.

Bloomberg has an interesting story on the effect the expansion of the Panama Canal could have on US railways. The canal expansion may be among the largest fuel savers for US consumers over the next 15 years.

Regular Car, Premium Gasoline

2010-01-25T08:28:00.038-05:00

An increasing number of regular looking vehicles in the US are requiring high octane premium gasoline. These vehicles include the tiny Smart fortwo and a variation of the Volkswagen Jetta.

(source: Kelley Blue Book via USA Today)

Is this premium fuel requirement a stealth move for some auto manufacturers to gain market share? Has this increased sales of high octane gasoline relative to regular octane gasoline in the US?

Octane Ratings Explained
Octane ratings are the numbers printed on a gasoline pump often labeled regular, midgrade and premium. In the US regular gasoline is greater than 85 and less than 88 octane, midgrade is equal to or greater than 88 and less than 90, and premium is equal to or greater than 90. In Europe and Asia the number on the pump for equivalent fuel is usually 5 points higher. In other words 87 on a pump in the US is equivalent to 92 on a pump in the UK.

Octane rating has little to do with the energy content of the gasoline. It has all to do with how much volume of the gasoline can be squeezed, or compressed, into an engine cylinder without the gasoline igniting before the spark plug fires. Gases heat up when compressed and gasoline engines are tuned to compress the gasoline as much as possible without compressing it so much the fuel burns without a spark plug. The goal is for the timed and synchronized spark plug to ignite the fuel when a piston reaches the top of the combustion chamber. If ignition due to compression (rather than the spark plug) occurs then an engine can be damaged.

Many new cars requiring high octane fuel can tolerate slightly lower octane because their computers adjust for the less compression ignition resistant fuel, but there is typically a lower power output and one should only do this if a vehicle manufacturer says it is ok for your engine.

As gasoline with higher octane ratings resists compression more than regular can be added to the combustion chamber on each stroke of the engine. This higher compression tolerance allows more more gasoline to be burned and more power on each stroke. This is why racing cars use high octane gasoline.

Why don't all cars use high octane gasoline? There is a substantial incremental cost for a refinery/gasoline blender to raise the octane of gasoline. Higher octane requires expensive gasoline blendstocks and consumers are sensitive to increased gasoline prices.

The additional fuel cost to a driver for high octane gasoline compared to regular is around US$100-US$200 each year (based on 10,000 miles per year in a 25MPG vehicle).

Should one fill up with higher octane than a vehicle manual suggests? No. It will likely be a waste of money without any improvement in performance. If your vehicle manual recommends regular octane then just use regular.

Use high octane gasoline if you have a vehicle with a high compression engine and your vehicle manual recommends it. However, as mentioned above, some vehicle manufacturers say their engine computers can adjust to handle lower octane rated gasoline.

High Octane Gasoline No Longer just for Sports Cars
In the past high compression gasoline engines were primarily used in sports cars and luxury high performance vehicles. Now more vehicle manufacturers are putting high compression engines into what would not generally be perceived as being a sports car.

One reason vehicle makers are doing this because it improves the statistics consumers look at when purchasing a vehicle. A high compression engine running on premium will accelerate a vehicle from 0 to 60 MPH faster than a low compression engine. Consumers rarely ask a car dealer which octane rating of gasoline a vehicle burns. They do ask how quick the vehicle acceleration is from a standing stop and on a test drive will notice the peppiness and responsiveness of a high compression engine.

Has Demand for Premium Gasoline Changed?
In summary, the number of vehicles requiring premium (high octane) gasoline (rather than midgrade or regular) has been increasing in the US because vehicle manufacturers have realized that high compression engines can increase vehicle sales by enhancing the statistics consumers look at and the test drive experience. One could surmise, therefore, that the percentage share of premium gasoline being sold in the US has been steadily increasing as these new vehicle owners dutifully follow vehicle manufacturers' recommendations.

The data shows that most of these high octane requiring vehicles are being filled with lower octane fuels. The percentage of premium relative to total gasoline sales has been steadily falling (see chart below):

(click chart to enlarge)

It is likely the nod from some vehicle manufacturers that onboard computers can adjust newer high compression engines to handle lower octane gasoline that gives comfort to some owners. Another way of looking at the data is that these new, often unsuspecting, high compression engine owners are attempting to save at the pump having hastily splurged on a sprightly engine.

(Why is "octane" the name used for the compression resistance of gasoline? Read Oil 101, Chpt. 9)

USGS Finds New Saudi Arabia! Oh, wait...

2010-01-24T22:18:00.023-05:00

The BBC over the weekend had the headline: Venezuela oil 'may double Saudi Arabia'. The headline was based on the just released assessment of Venezuela’s hydrocarbon deposits by the US Geological Survey (USGS). Venezuelan oil is described as: "the largest accumulation ever assessed by the USGS". The USGS mean estimate of recoverable Venezuelan oil is 513 billion barrels.

The USGS number is over five times 'Oil and Gas Journal's' estimate of 99 billion barrels for Venezuelan proven oil reserves.

To put all these billion barrel numbers in perspective, global consumption is currently around 30 billion barrels per year. Saudi Arabia's oddly static (see Oil 101, Chpt.14) stated proven reserves are around 260 billion barrels. One could almost drive two Saudi Arabias between the 513 billion and 99 billion barrel estimates for Venezuela. Which number is closer to the truth?

It comes down to the types of reserves being defined. The USGS number refers to hydrocarbons technically recoverable if one completely ignores costs. The 'Oil and Gas Journal' number factors in technical feasibility just like the USGS but additionally the economic cost of extracting heavy Venezuelan oil using similar processes to Canadian oil sands production.

The USGS has no mention of the fact that the costs to extract much of the hydrocarbons from the Venezuelan accumulation could be over US$200, US$300 or even US$1000 per barrel and would thus be unlikely to ever be produced.

Only in the very last paragraph (pdf) of the USGS report is there any attempt to put some perspective on their headline grabbing number: "No attempt was made in this study to estimate either economically recoverable resources or reserves within the Orinoco Oil Belt AU. Most important, these results do not imply anything about rates of heavy oil production or about the likelihood of heavy oil recovery. Also, no time frame is implied other than the use of reasonably foreseeable recovery technology."

This sort of key disclaimer would be more appropriate in an opening paragraph.

The USGS say that their report is "critical to our understanding of the global petroleum potential and informing policy and decision makers." How many policy and decision makers will read past the headline and opening paragraphs to understand that economics played no part in the analysis?

(HT/Terry G. for sending related link)

Oil Creates Decennis Horribilis for Airlines

2010-01-22T09:49:00.016-05:00

How long can an entire industry operate at a loss? For the airline industry it is ten years and counting. The primary reason for airline woes has been high oil prices.

Airlines globally will spend close to US$150 billion on jet fuel this year. The global airline industry is expected to lose US$5.6 billion during 2010 if oil prices average US$75 per barrel (basis ICE Brent crude). This follows an industry loss of US$11 billion in 2009 capping a decade of losses:

"Between 2000 and 2009, airlines lost US$49.1 billion, which is an average of US$5.0 billion per year,” said Giovanni Bisignani, IATA’s Director General. (source)

The jet fuel share of total costs spent running global airlines has roughly doubled since the early part of the decade:

2000 14%
2001 13%
2002 13%
2003 14%
2004 17%
2005 22%
2006 24%
2007 28%
2008 32%
2009 26%
2010 26%*
*IATA Forecast

US Taxpayers to Increase Backing for Compressed Natural Gas Vehicles

2010-01-22T07:55:00.011-05:00

There now appears to be an increasing chance legislation will be enacted in the US by May 2010 increasing support for natural gas as an alternative to oil in transportation. This could be the most significant energy policy change in the US since the controversial decision a few years ago to provide taxpayer subsidies for crop based fuels.

In the videos attached to the Bloomberg news story US oilman Boone Pickens is quite optimistic about the probability legislation will pass very soon.

Oil Efficiency Falls in Importance, Perhaps

2010-01-18T22:16:00.028-05:00

Oil market participants are curious to know whether oil efficiency is becoming more important to consumers buying new vehicles. Consumers say no. In fact, they say its importance is diminishing.

Consumer Reports' 2010 Car Brand Perception Survey has just been released. The US survey was conducted in December 2009. Safety, quality, value and performance remain the primary factors of interest to consumers according to the 2010 survey. Efficiency, called the 'environmentally friendly/green' factor in the survey, fell 8 percentage points from 40% in 2009 to 32% in 2010. As Consumer Reports says:

"In a troubled economy, with gas prices relatively low, green in the wallet trumps environmental concerns."

In short, the Consumer Reports' Survey indicates that the greater than two year efficiency drive which occurred in the early 1980s is not being repeated at present. Instead, 2008-2009 oil demand destruction may be more like the 1973-1974 efficiency drive which quickly evaporated.

The oil market is now receiving conflicting data from US oil consumers. The percentage of newly purchased vehicles being cars is increasing versus SUVs and light trucks, but according to the Consumer Reports' survey consumers are saying that efficiency is less important. Perhaps it is the wording of the Consumer Reports survey which is creating the conflict with actual US vehicle purchase data? Perhaps we should watch what consumers do rather than what they say?

(See Oil 101 for more on prior oil demand destruction periods.)

WTI Benchmark Effectiveness Study

2010-01-14T06:08:00.002-05:00

Over the past few years some have incorrectly blamed oil price volatility on "broken" oil price benchmarks.

Oil price volatility has been necessary to match inadequate supply to burgeoning demand since the early 2000s.

An interesting study by Craig Pirrong of the University of Houston is reviewed here by Greg Meyer of the FT. The study findings, which I agree with, show that WTI crude futures contracts accurately reflect underlying physical market fundamentals.

A Car Story

2010-01-11T06:38:00.003-05:00

Whither the future of oil demand? A major component in forecasting future oil consumption involves analysis of the number of installed devices (cars, trucks, aircraft and ships) capable of burning oil. Following the recession the pace of US auto sales recovery is outpacing many analysts' expectations (chart 1):

(click to enlarge)

US consumers are continuing their trend toward purchasing more efficient vehicles. The percentage of cars sold is increasing instead of light trucks and SUVs (chart 2):

(click to enlarge)

US auto makers also seem to be gaining ground in relation to foreign auto makers (chart 3). As I mentioned a few months ago, there are firm reports that US consumers perceive there to have been large quality gains from US auto makers.

(click to enlarge)

The US is not alone in having increased auto sales. Chinese consumers have been purchasing more vehicles than US consumers on a monthly basis since September 2009 (chart 4).

(click to enlarge)

The installed base of existing vehicles in the US means that the US still consumes more than twice the amount of oil as China (chart 5). If the Chinese economy sustains an annual compound growth rate of 8% in vehicles sales then it will be 12 years from now in 2021 that China will consume roughly the same amount of oil as the US does today. To put the US and Chinese numbers in perspective, global consumption of oil is currently around 85 million barrels per day.

(click to enlarge)

Cold Weather Heats Up the Oil Market

2010-01-04T20:14:00.018-05:00

Heating oil demand is a key seasonal factor influencing oil prices. Large markets for heating oil exist in Western Europe, the Northeast and Midwest US, and Northeast Asia (Korea and Japan particularly).

The northern hemisphere Winter heating season runs from November through March with demand peaking in January.

The 2009/2010 heating oil season started out relatively mild. The following three charts are the temperature deviations from historical norms for each of the significant heating regions for the three month period September 2009 through November 2009 (click on the charts to enlarge).

Since the beginning of December 2009 temperatures deviated from normal to become much colder in Europe and Northeast Asia (click to enlarge):

Temperatures in the US deviated quite strongly to colder than normal over the past week which lent support to oil prices and pushed the market above US$80 per barrel (click to enlarge):

The US National Weather Service (NWS) is also predicting the next 6 to 10 days (January 4 through January 10-14, 2010) to be colder than normal in the US Northeast and Midwest (click chart to enlarge):

(source of charts used in this post: US National Weather Service)

Oil 101 Price Reduction

2010-01-04T18:06:00.002-05:00

The price of Oil 101 has been reduced from US$34.95 to US$29.95.

Oil Number to Watch in 2010

2009-12-29T19:39:00.036-05:00

OPEC members and particularly the Saudi Arabians are the marginal global oil price setters due to their creation and use of spare production capacity. Saudi Arabia is the de facto leader of OPEC with the highest production and spare capacity volumes. Last week the government of Saudi Arabia outlined its budget for 2010. With a few simple calculations the Saudi budget provides guidance as to the minimum oil price OPEC will likely seek to defend over the coming year.

2009 Saudi Budget in Review
Crude oil, basis NYMEX WTI, averaged US$62.02 per barrel between January 1 and December 29, 2009. At this US$62.02 oil price the Saudi government ran a deficit and had to borrow to make up the difference:

"The ministry also said actual spending in 2009 stood at 146.7 billion dollars while actual revenues were 134.7 billion dollars" (Source: AFP)

With Saudi Arabian production of around 8.2 million barrels per day (Mb/d) of conventional crude plus 1.5 Mb/d of NGLs in 2009 the Saudis needed oil prices basis WTI to have averaged around US$65.40 rather than US$62.02 during 2009 to balance their budget.

2010 Saudi Budget Outlook
As global oil demand grows the Saudis are expected to marginally increase production volumes of both their conventional crude and NGLs in 2010. With the expected increases in production volumes Saudi Arabia's 2010 budget breakeven oil price level will be slightly lower than that needed in 2009.

The Saudis are forecasting a second year of government deficits and borrowing for 2010. WTI will need to average US$60.50 per barrel to balance the Saudi's 2010 budget without any deficit or US$55.50 with their planned deficit and borrowing to make up the difference.

Although oil prices are well above it now at close to US$79 per barrel, if demand falters or supply increases dramatically then this US$55.50 level will be the 2010 OPEC downside action trigger to watch.

2009 Oil Market Review as OPEC Meets

2009-12-22T05:04:00.010-05:00

As OPEC members meet today Tuesday, December 22, in Angola, it is worth taking stock of why OPEC has no choice but to yet again refrain from making any production changes in order to maintain prices above the low US$70s per barrel. Compliance with the 4.2 million barrels per day (Mb/d) cuts announced by OPEC members in late 2008 is currently around 2.25Mb/d.

Oil Demand
During the 2008-2009 recession global oil demand fell by 2 Mb/d from over 86 to 84Mb/d (chart 1). Global demand is beginning to grow again. The charts in this post (click to enlarge) use monthly data and 12 month rolling averages to adjust for seasonality. The latest point used for EIA data is November 2009.

(click to enlarge)

Almost all the global decline was concentrated in developed OECD nations (chart 2). Less developed non-OECD nations such as China and India only saw a temporary stagnation and are now exhibiting growing demand (chart 3). Non-OECD oil demand has surpassed 2008 highs.

(click to enlarge)

Of the OECD decline, one third came from the US, one third from OECD Europe, and one third came from the remaining developed OECD countries.

The US accounts for just under 23% and Europe 18% of 2009 global oil demand. In late 2009 oil demand in the US and Europe appears to have stopped falling (see charts 4 and 5).

(click to enlarge)

Oil demand in the US was destroyed more in absolute barrels over the past few years than in any other region.

The severe demand destruction in the US had a lot to do with current US oil consumption patterns (76% of Americans get to and from work by driving alone) and infrastructure (average US vehicle fleet efficiency is less than half that of available technology). Relatively inefficient consumption allows for swift efficiency gains compared with other parts of the world which are already at or close to maximum technically available oil consumption efficiency.

Looking at total US oil demand (chart 4) one may perceive that it is in a steady decline which can perhaps be extrapolated into the future. However, delving deeper into the data provides clues as to exactly why US demand declined and why this decline has ended.

The total number of miles driven on US highways has stabilized and is increasing (chart 6-a).

(click to enlarge)

Interestingly, the pattern in which miles driven changes has defined every recession since the 1970s and defines the latest recession as V-shaped (chart 6-b).

(click to enlarge)

This stabilization and increase in highway miles driven is showing up in US gasoline demand which is no longer falling and has begun to grow again (chart 7). Gasoline demand accounts for almost half US oil consumption.

(click to enlarge)

The recovery in gasoline demand is because people are cutting back on vacation spending by driving rather than flying to holiday spots. This certainly syncs with the fall in jet fuel consumption (chart 8) and anecdotal evidence. Businesses have also been cutting back on flights.

(click to enlarge)

The decline in jet fuel consumption is more than offset by the increase in gasoline consumption. Combined, jet fuel and gasoline demand (together 57% of total US oil demand) are beginning to recover (chart 9).

(click to enlarge)

Where is the remaining weakness in US oil demand? It is in industrial oil demand. Demand for distillate (diesel and heating oil), residual fuel oil (mostly used for shipping and a little for electrical power generation) and other oils (lubes, waxes, asphalt, plastics and a bunch of other oils).

(click to enlarge)

Aggregating these three categories of US oil demand into “Industrial” demand, these industrial oils account for 43% of total US oil demand (chart 11).

(click to enlarge)

To see a strong recovery in US industrial oil demand there would have to be a recovery in consumer spending (linked to unemployment, housing and the savings rate), manufacturing activity (especially autos), and private services sector activity. Most indicators in these macroeconomic areas have begun to stabilize and improve over the past couple of months.

So why have oil prices stabilized in the US$70-80 per barrel range if the reduction in global demand is recovering such that it is now down only around 1Mb/d year/year?

Oil Supply
In the face of the oil demand collapse which began in mid-2008, OPEC members (which produce just over 40% of global supply) announced in Q408 that their new quota would be a 4.2Mb/d cut from their September 2008 output level of 31.4Mb/d. OPEC members implemented just over 3Mb/d of the cut at the beginning of 2009.

Throughout 2009 OPEC compliance slipped, with core OPEC producers such as the Saudis holding more firmly to their commitments and lesser OPEC producers cheating.

OPEC supply in December 2009 is down around 2.25Mb/d compared to September 2008. OPEC NGLs production (not counted in OPEC quotas) is up 0.8Mb/dd. So net total OPEC liquids (OPEC definition of “crude” Plus NGLs) is down 1.45Mb/d since September 2008.

Non-OPEC output (adjusting for the effects of hurricane shut-ins) is up around 0.5Mb/d year/year.

So net total liquids output (OPEC plus non-OPEC) will be down 0.95Mb/d in December 2009 compared to September 2008.

Global supply has done a masterly job of removing product from the market as demand collapsed. The supply decline of around 1Mb/day is offsetting the current demand decline of 1Mb/day year/year with one exception: floating inventories.

The incentive to store crude oil, residual fuel oil and distillate (diesel, heating oil and jet fuel) on floating tankers has absorbed some of the supply which OPEC delivered into the market. Due to a contango forward curve inexpensive tankers were used to store a very large amount of oil throughout the year until September 2009. It has been this oil coming ashore since September which has capped prices at US$80 per barrel.

At the OPEC meeting today Tuesday, December 22, OPEC members have no choice but to maintain existing production cuts in order to keep the global market in balance (a balanced market has inventories neither increasing nor decreasing) and hold onto 2009 price gains. If OPEC maintain their existing cut compliance levels of just over 2Mb/d then as soon as the drawdowns of floating inventories ends higher prices and a re-test of US$100 per barrel will be on the cards for 2010.

OPEC will have to wait until their next meeting to increase production if they want to defend US$70 per barrel.

Globalization Directions: just add a Box and Oil

2009-12-20T19:49:00.012-05:00

At this time of year it may be wise to dwell briefly on how consumer products are transported. Globalization runs on container shipping and oil. Beginning in the 1950s, standardized 20 and 40 foot intermodal containers revolutionized shipping and enabled vastly cheaper, quicker, longer, more complex supply chains. For an interesting history of containerization see 'The Box'.

Fundamentals of Oil Pricing

2009-12-16T22:06:00.063-05:00

Another research report released today, this time by JPMorgan, showing that oil market price movements are driven by fundamentals and not speculation. I agree fully with the JPMorgan findings and it is interesting that almost everyone from academics to regulators such as the CFTC analyzing this issue reaches the same conclusion.

Barnes and Noble

2009-12-15T11:12:00.003-05:00

Over the past day or so Amazon in the US (UK appears to be fine) has had some inventory outages for Oil 101. As an alternative you can order it here from Barnes and Noble. If you are looking for large volumes (greater than 100) you can email here.

Most Controversial Oil Speeches Ever

2009-12-13T22:06:00.040-05:00

Recently I have been dwelling on hard data research of the 1970s and early 1980s to gain insight into the oil situation we face today (see Oil 101 Chapter 1).

On April 18, 1977 US President Jimmy Carter delivered his "Moral Equivalent to War" speech (see below) on energy which is viewed as being one of the most controversial energy speeches ever:

(see transctipt here)

A couple of years later, on July 15, 1979, Carter delivered his infamous "Crisis of Confidence" speech:
(see tanscript here)

I am publicly indifferent toward Jimmy Carter's politics except his energy policies. If you have met me in person recently you will know why being aware of these two speeches is important in understanding our situation today and the effects of government action.

Flying V Could Rock Jet Efficiency

2009-12-07T19:54:00.005-05:00

An interesting story from The Economist describing how airlines could save jet fuel by flyng in formation.

Oil Books

2009-12-07T09:25:00.005-05:00

Edward Morse outlines a useful "annotated Foreign Affairs syllabus on oil" in the latest issue of Foreign Affairs.

Kerosene: Not Just a Fuel for the Jet Age

2009-12-03T22:45:00.008-05:00

Long before gasoline and diesel came into widespread use, kerosene for lighting was the initial product which drove oil demand from 1859 until the early twentieth century. When oil transformed into a transportation fuel kerosene was repurposed to be used as jet fuel in the late 1930s.

Global demand for kerosene as a lighting fuel is now relatively tiny with almost all kero being used as jet fuel.

Kerosene is still used as a lighting fuel in rural India where 400 million people do not have access to mains electricity (population of the U.S. is just over 300 million). As you can see from the Wall Street Journal video below, kerosene in rural India is only now, 150 years after the start of the modern oil industry, being replaced by solar lanterns.

Dargay/Gately on Modeling Oil Demand

2009-12-03T09:22:00.036-05:00

Year end is the season given to updates of long-range oil supply and demand forecasts, particularly from the OECD's International Energy Agency (IEA) and the US Energy Information Administration (EIA). Many models used for forecasting rely on extrapolating past patterns. However, is such a method reliable if those patterns reflect unrepeatable structural changes?

Is the oil demand pattern over past 40 years a reliable indicator of what may occur in the future? Or, as a very interesting research paper just released by NYU Professor Dermot Gately and Joyce Dargay of the Institute of Transport Studies at the University of Leeds in the UK indicates, has there been a one off structural change in the use of oil which if ignored and not backed out of past patterns could create a very large under estimation of potential oil demand?

The one off structural change in oil demand was the global shift away from using oil for electrical power generation over the past 40 years.

Following is a summary of the paper in my words:

Dargay/Gately find that much of the efficiency in oil consumption in OECD countries since 1970 was due to oil being effectively phased out as an electricity generation fuel. The oil saved from electicity generation was used in transport. Transport demand for oil facilitates economic growth and is thus highly correlated with economic growth.

Now that this shift away from oil being used for electricity generation has been completed, growth in Total oil demand is going to be much more highly correlated to economic growth than it has been since 1970. Because of this, one cannot use growth in Total oil demand since 1970 as a predictor of future oil demand growth. Instead, growth in Total oil demand is likely to be higher than the 1970-today period.

Oil demand in 2009 is just over 84 million barrels per day (mbd). A major reason for the difference between the Dargay/Gately demand number by 2030 of 134 mbd and the IEA forecast of 105 mbd is due to Dargay/Gately incorporating the fact that the one off switching effect from electicity use to transport use cannot be repeated. Dargay/Gately are not stating that supply of 134 mbd or 105 mbd will be available. They are simply looking at the demand side of the equation and saying that if economic and population growth progresses as the OECD forecasts then the oil demand this implies is likely to be a lot higher than the IEA's forecast of 105 mbd.

The conclusion I take from Dargay/Gately's paper is that if supply is not available to meet this 134 mbd oil demand then economic growth cannot progress as the OECD forecasts and/or an extremely large and unprecedented change in the level of oil consumption efficiency will have to take place between now and 2030. This efficiency will likely be driven by high oil prices.

(click on Fullscreen below to enlarge)

US EPA Ethanol Decison Postponed

2009-12-01T22:10:00.004-05:00

The US EPA has postponed to mid-2010 any decision to change ethanol limits in the US. Last week I described why such a decision is anxiously awaited. (HT/Xavier).

Oil 101: A Great Holiday Gift

2009-12-01T06:30:00.019-05:00

An appropriate gift for all members of the family.

What would be a great gift this holiday season? Oil 101. Order here in the US and internationally and here in Europe (price in the UK has been reduced by 5 pounds over the past week to reflect the strength of the GBP relative to US Dollars). I am mentioning it today as if you need it before the holidays then you may need to order it soon. Thanks!

IEA to Japan: 85MPG by 2030

2009-12-01T06:29:00.079-05:00

The OECD International Energy Agency (IEA) is the taxpayer funded energy advisor to the 28 most developed countries. The agency was created in 1974 by large oil consuming nations in response to an oil supply embargo which began in late 1973.

The IEA publishes an annual World Energy Outlook (WEO) each November. See a video of the 2009 WEO press conference here.

One of the conclusions which can be drawn from deconstructing the 2009 WEO, the IEA's forecast of energy supply and demand out 20 years to 2030, is that the IEA estimates that the average new vehicle sold in Japan in 2030 will have to attain on average 85 miles per gallon. Even small motorcycles cannot get close to that level of efficiency in everyday use today. Those 2030 Japanese vehicles will have to be plug in hybrids and Japan will have to build electrical capacity to handle this demand.

Oil supplied to the global market in 2009 is just over 84 million barrels per day (Mbpd). The big headline grabbing number in the WEO report this year is that the IEA believes global oil supply in 2030 will be around 105 Mbpd. Although the IEA's 105 Mbpd 2030 supply forecast is down significantly from previous WEOs it will still require the discovery and development of at least four Saudi Arabian sized oil producing areas before 2030. This huge challenge is the IEA's basic "reference scenario".

What most people are interested in from a modeling perspective is the logic and assumptions the IEA uses. In this regard, this years IEA supply side estimate methodology appears to have a certain predictability.

In fact, let me pull up an old chart of mine showing oil supply at 4.6 barrels per year per capita over the past 27 years (see chart below). What does the IEA 2009 WEO forecast for 2030? You will not be surprised that it is almost exactly 4.6. Plug in the current global population and UN population growth estimates between now and 2030 et voila: IEA global oil supply estimates almost to the barrel.

(click chart to enlarge)

There is nothing wrong with using 4.6. Using 4.6 is a reasonable starting point for modeling required oil supply. Remember that the IEA's basic supply side case to get to the 4.6 number assumes at least four Saudi Arabias will be among those discovered and developed over the next 20 years - a whopper of an assumption. Estimating actual oil supply out 20 years is much more challenging given that most of the oil which will be supplied in 2030 has not yet been discovered.

The IEA goes on to estimate how the 4.6 barrels per year per person globally will be broken out by geographic region on the demand side of the oil equation. Their conundrum is that if China, India and other non-OECD countries continue to grow as expected then someone else has to reduce oil consumption through voluntary or forced efficiency. The IEA is forecasting per capita oil consumption efficiency improvements of just over 20% in each of the US and OECD Europe. Amazingly the IEA is forecasting per capita efficiency of around 40% for Japan. This is after taking into account population changes. These efficiency numbers are the IEA requirements under their basic "reference scenario".

Another interesting point to note is that the IEA WEO forecasts non-OECD (which includes China and India) per capita oil demand to only increase by a total of 14% between now and 2030 despite forecasting compound annual economic growth of around 5% per year for non-OECD countries. This implies extremely large per capita oil demand efficiency, greater than Japan's 40%, in the non-OECD developing world.

What will cause this efficiency: climate change legislation, slower than expected economic and/or population growth, availability of niche alternatives such as CNG and electric vehicles or persistently high oil prices? It will be a combination of all these but most likely will be as a result of high oil prices. The IEA WEO report forecasts oil prices rising to an average of US$100 by 2020 and US$115 by 2030 (in year-2008 dollars). However, based on an analysis (see pages 15 and 16 of Oil 101) of rare past periods of oil consumption efficiency it is unikely that the IEA's price forecasts are sufficiently high by a long shot to create the required efficiency.

What to do? It cannot be stressed any more how the winners in the IEA reference scenario to 2030, which many outside the IEA see as too optimistic, will be those that get ahead in terms of efficiency. Reacting to oil prices is by definition too late. That is why a Vehicle Efficiency Market is the least painful way for individual countries to gain advantage. We have to create an economic incentive to become more efficient independent and ahead of oil prices.

End of the 2009 Hurricane Season

2009-11-30T20:34:00.012-05:00

November 30 marks the end of Atlantic Hurricane Season which began back in June. This has been an extremely mild season with only one (Hurricane Ida in early November) hurricane shutting down a small amount of US Gulf Coast oil and gas production for a few days. Not a single hurricane made US landfall in 2009.

Comparing storm activity from one year to the next is a challenge. Do you use lives lost, number of named storms, dollar damage, volume of oil and gas production shut in, or maximum intensity?

Taking a leaf from Google's attempt to analyze flu using words typed into its search engine, here are two charts which I am updating for the last time this year comparing the 2009 hurricane season to previous ones. The first chart shows how many searches for the word "hurricane" were carried out over the past six years. The 2005 season which included Hurricane Katrina stands out. Interestingly, the Google index registered a ZERO for the week up to November 29, 2009. This is the first time the data showed no value.

(click chart to enlarge)

A second chart shows the same data as above, except in a cumulative form with the end of 2005 indexed to 100:

(click chart to enlarge)

The effects of seasonality on oil are described in Oil 101.

Downey City to Build Transport Future

2009-11-30T06:25:00.048-05:00

It is often said that we need a 1960s Apollo Program Moon Shot type effort to meet future transport energy needs.

Coincidentally, the new Tesla electric car may be built in the same city which built the Apollo moon capsules: Downey, California.

Here is a video from ABC News describing the new plant. The AP describes the 7-seater sedan car as the "Model S, which is designed to travel as far as 300 miles on a three- to five-hour charge." Tesla currently produces an ultra-luxury electric 2-seater sports car which costs almost US$110,000. The new sedan is expected to cost around US$57,000. This is still expensive but as with most automotive technologies it tends to start in luxury vehicles before entering the mainstream.

US Ethanol Decision Soon

2009-11-26T22:48:00.005-05:00

As I mentioned at the beginning of May there is an oversupply issue with ethanol. Ethanol in the US is alcohol produced mostly from corn. US government mandated minimum ethanol volumes exceed what auto makers say most of their cars can handle. Typically cars can handle 10% ethanol blended with 90% petroleum-based gasoline without any special equipment.

The New York Times is reporting today that the US EPA may raise the US ethanol blend wall from 10% of gasoline to as high as 15% or 20% within the next week. Although such a change would be good for ethanol producers, this additional ethanol would displace petroleum-based gasoline and pressure oil refinery margins lower.

Update: On Tuesday December 1, 2009 the EPA announced it would defer making a decision on changing the US ethanol blend limit until mid-June 2010.

Happy Thanksgiving; enjoy the quiet airports

2009-11-25T22:32:00.008-05:00

Thanksgiving is a big holiday in the US celebrated on the fourth Thursday of November each year. Is the travel associated with Thanksgiving significant for jet fuel demand? Not really.

The day before Thanksgiving is often incorrectly believed to be one of the busiest days for air travel in the US. Here is an interesting story on the subject from CBS.

CNBC TV today

2009-11-25T11:18:00.016-05:00

I appeared live on CNBC TV at 3:15pm New York time today to discuss commodities.

(click here to view on CNBC's site if it doesn't open below)

Update: As I predicted, within a week, on Tuesday December 1, 2009 spot gold traded above US$1,200 per troy ounce.

Is the Future of Transport in Niches?

2009-11-24T18:22:00.007-05:00

Transport occurs in fairly stable patterns. People commute to and from work, school and stores each day within a known range of miles and load. However, these stable patterns do not define the vehicles people buy. People tend to buy vehicles which cover a large array of contingencies. Daily commuter vehicles are more often than not heavier than needed for a daily commute as they are purchased for events such as a once every month journey more than 200 miles with 6 people. This contingency-link to vehicle purchasing creates a lot of fuel inefficiency.

(source: US Census Bureau)

As transport fuels become more diverse and expensive, powered transportation devices may also become more customized to fill niches. These niche vehicles will be more efficient as they would just cover the vast majority of daily transport in the most efficienct manner. Services such as car sharing Zip Car would meet the need for less frequent vehicle uses.

In cities, people tend to use taxis, subways and buses. Taxis are expensive. Subways and buses, while most often the quickest way around, can be slow and infrequent at the edges of a city.

I was passing a motorcycle store the other day and saw this Ultra Motor A2B electric bicycle which can travel 20 miles at 20 miles per hour between charges. It is an urban commuting vehicle. One can pedal if the batteries have been drained. The vehicle can be stored inside an apartment or an office which is an advantage over gasoline-powered scooters. I am not endorsing this bike, it is simply interesting that products which would once have been considered gimmicks are now slowly at the edges of becoming more mainstream.

The Gold to Oil Ratio

2009-11-16T11:32:00.027-05:00

In addition to fundamental supply and demand oil prices float against the US dollar. As the dollar weakens oil prices in dollars rise. This dollar weakness has accounted for some of the rally in oil prices since the 1990s.

(click image to enlarge)

Gold can be considered to be a currency just like the dollar or euro. Gold is at an all time high against the US dollar of US$1,135 per troy oz today. It is interesting that the price of oil in gold terms (1 troy oz currently buys 14.38 barrels) is at the bottom of the range in which it traded during the 1990s. In other words, oil in gold terms looks much less expensive than in US dollar terms.

(click image to enlarge)

$500 Oil Calls Set Hyperinflation Probability

2009-11-12T22:29:00.045-05:00

US oilman Boone Pickens said today he thinks oil prices will be above US$100 per barrel at some stage during 2010 and US$300 within 10 years.

Pickens isn't alone in his bullish outlook. Quite a few December 2015 NYMEX WTI crude oil US$500 strike call options have been purchased since the beginning of October this year (see chart below).

So someone out there thinks the probability of crude trading above US$500 per barrel by December 2015 is worth consideration at a value around US$1 per barrel. That’s a big premium for a big oil number.

The oil market is placing a higher probability than other asset markets on the chance of outsized inflation.

(click chart to enlarge)

For more on oil options check out Chapter 19 of Oil 101.

Saudis Tap Brakes to Slow, Not Stall, Oil Rally

2009-11-09T21:59:00.033-05:00

Saudi Aramco today announced that it will be increasing oil production slightly in December. This Saudi announcement is insufficient to bring the oil market into balance. The oil price rally of 2009 appears likely to continue, notwithstanding small corrections.

IEA to Public: You Can't Handle the Truth

2009-11-09T19:03:00.013-05:00

An interesting news story this evening from the UK's Guardian newspaper which alleges that the International Energy Agency (IEA) changes forecasts to make them more rosy for oil consumers. The IEA's annual World Energy Outlook (WEO) is used for energy planning by 30 OECD developed economies and is published tomorrow (Tuesday):

"The senior official claims the US has played an influential role in encouraging the watchdog to underplay the rate of decline from existing oil fields while overplaying the chances of finding new reserves.

The allegations raise serious questions about the accuracy of the organisation's latest World Energy Outlook on oil demand and supply to be published tomorrow – which is used by the British and many other governments..." (UK Guardian)

These are quite grave allegations by the Guardian as to who the IEA works for and to what end. OECD taxpayers fund it.

World Oil Demand in Motion

2009-11-08T21:58:00.046-05:00

When data is put in motion over time it becomes more interesting. I have added World data to the Oil Demand Motion Chart. You can look at this chart any time from the link on the right side of this web site. The oil data comes from the BP annual statistical review. The population data is from the UN and the GDP data is from the World Bank.

Some interesting observations one can take from the chart are: 1. the evolution of oil demand in developing nations (click on Korea); 2. how developed nations oil consumption per capita is relatively stable (click on the US or UK); 3. that world oil demand has stuck at around 4.6 barrels per person for over 26 years despite huge population and economic changes over that time (discussed here previously).

I will be adding a lot more data to this chart over the coming weeks, especially some future oil demand scenarios.

The inspiration for the oil demand motion chart came from Fig. 1-13 on page 18 of Oil 101.

Hurricane Ida

2009-11-08T16:14:00.029-05:00

(click here for updated Ida path)

This has been a very mild hurricane season for US Gulf Coast oil and gas production and refineries. Until yesterday there were no shut ins of production or refinery ouput due to hurricanes in 2009. Hurricane season ends on the last day of November and so Hurricane Ida is relatively late in the season. Ida is passing through an area in which oil and gas is produced and refined, which is why some companies are taking precautionary action.

Update: Monday Nov. 9th, 6:25pm. The US MMS says 384,642 barrels of oil production and 1.925 BCFD natural gas production shut in by Ida. This is roughly one quarter of US Gulf Coast offshore production.

Assuming no damage and that staff are back on platforms by Tuesday afternoon, it is likely that output will be shut down for a total of 2-3 days production.

Click on the link here to see an amazingly detailed NASA image of the storm.

Leading Edge Oil Demand Data

2009-11-05T21:56:00.036-05:00

Is 2009 OECD oil demand destruction like 1974, when efficiency didn't stick, or the early 1980s, when efficiency almost bankrupted the oil industry? I have a much more detailed theory as to which version it is - which I will post at a later date. For now, let's dig into some data.

OECD oil demand growth is being written off by most oil analysts for the next few years. OECD demand growth is probably the most significant known unknown in the oil market. Early data indicates that we may be seeing signs of permanent OECD oil consumption efficiency. Given the huge numbers involved in OECD oil demand, it is worth teasing any data out for signs of how this efficiency is progressing and if it is lasting.

Automobile sales in the US are recovering (chart 1). The October sales numbers were at an annualized rate of 10.45 million units, up from 9.2 in September and 14.09 in August. The August number was prematurely high due to the cash for clunkers program which took place mostly in that month.

(click image to enlarge)

Now that the data dust of the cash for clunkers program has settled it is becoming clear that the mix between cars and SUVs/light truck sales is changing (chart 2). A higher share of car sales rather than heavier vehicles would tend to indicate that sticky changes in efficiency are occurring. Oil analysts factor these shifts into long term vehicles on the road when modeling oil demand. I speculated last month that the August cash for clunkers program had the effect of being a giant advertising program for efficient vehicles and would kick off this efficiency move.

(click image to enlarge)

What is interesting as an economic sidenote, but not so much for oil demand, is that US domestically produced automobiles appear to be gaining some ground (chart 3). Perhaps this is due to the weakness of the US dollar which makes imported vehicles more expensive as well as the recent report in an influential consumer survey of some US auto makers' vehicle quality improving.

(click image to enlarge)

How to Speak OPEC

2009-11-04T21:28:00.001-05:00

As you may know from reading this blog, oil prices look like they will trade as high as US$95 before year end which will result in OPEC increasing production at their next scheduled meeting on December 22 in Angola. In other words, oil prices will continue higher until OPEC increases output.

OPEC have a relatively small amount of spare capacity and so once these production increases are done we will eventually see US$100+ oil again before the end of 2010.

Oil began 2009 close to US$30 per barrel. We are now at US$80 per barrel due to fundamental supply and demand. Oil bears have been blindsided in the past by an over-reliance on easy (OECD) data and OPEC double-speak. To help these oil bears out, here is a quick guide to the language of OPEC:

OPEC: Speculators are causing higher prices.
Means: OPEC wants, needs and causes higher prices by cutting output and creating an oil supply deficit. OPEC is the only group of oil producers with spare production capacity and has co-ordinated control of over 40% of global oil output - currently worth around US$3 billion per day, or US$90 billion per month.

OPEC: We think prices at US$70-US$80 are fair.
Means: OPEC will not increase oil production until oil trades above US$90 per barrel. OPEC members' target is US$70-$80, which means OPEC will increase production when oil trades above this range (perhaps to US$85-$95) to allow for some slippage. OPEC members do not want to encourage consumer efficiency or risk another recession with US$100+ oil, which is a psychologically important level for oil consumers.

OPEC: We cannot find buyers for our oil.
Means: OPEC members almost can't believe consumers are buying this line...but it actually worked when oil traded above US$100 last year because OPEC members had run out of spare capacity and were unable increase production.

OPEC: We do not want to increase production while OECD inventories are at record highs.
Means: Don't look at non-OECD inventories which are falling due to rapid demand growth in the developing world. Why do you think oil has risen from US$32 to US$80 over the past 10 months? If OPEC can keep consumers focussed on OECD inventories this allows OPEC to blame speculators and say "OECD inventories are high...it can only be speculators bidding oil prices up."

OPEC: Floating storage of oil is at record highs.
Means: It used to be that floating tankers were expensive and only used for storage when land-based tanks were full. Now these floating tanker owners are in such a bad way with a glut of tankers available that they are directly competing with land-based storage even though there is plenty of land based storage available. OPEC needs to point to any full barrel or container as an excuse not to increase production.

OPEC: We have almost 6 million bpd spare capacity.
Means: OPEC members have 2.5 million barrels per day (bpd) of spare capacity. The global oil consumer called OPEC members' stated spare capacity bluff in 2008.

Oil Market Braces against Chill in the Air

2009-11-01T21:52:00.029-05:00

Today was the first day cold enough in New York to require a coat. As we head into the Northern Hemisphere Winter chill it is worth putting seasonal heating in perspective.

The oil market splits the year into two seasons for heating purposes.
Winter is considered November through March. Summer is April through October.

The largest heating oil market in the World is in Western Europe followed by the US Northeast. Heating oil demand in Canada, Japan and Korea is also significant.

Winter Heating Oil Demand

(Click image to enlarge. Source: Oil 101, Table 13-2, Page 282)

Don't Cry for WTI

2009-10-29T06:35:00.005-04:00

Oil market pricing formulae and the benchmarks used in those formulae change over time as crude production that had been the basis for individual wells declines or the components of a blend change. Changes also occur when what is perceived to be an improved benchmark emerges.

A number of years ago, Saudi Aramco ceased using the day-end settlement of ICE Brent crude as a benchmark and switched to using a weighted average of Brent prices throughout each trading day. This new benchmark is called BWAVE (Brent Weighted Average).

Now, Saudi Aramco (which is a larger player among the hundreds of oil companies using WTI and other benchmarks) is switching from using Platts WTI to using Argus, a Platts competitor's, benchmark for US gulf coast sour crude.

The New York Mercantile Exchange (NYMEX) has tried in the past to launch a sour crude futures contract to compliment its less sour WTI. This may now give life to such an effort. A few years from now there may be two highly liquid US futures - WTI and Gulf Coast Sour.

Some have mentioned that this is a snub of NYMEX WTI futures or proof that WTI is "broken". On the contrary, I see this as a natural progression and fine tuning of benchmarks and formulae over time and something the NYMEX itself has embraced.

The Saudi decision is more of a win for trade journal Argus over its competitor Platts.

For more on oil pricing and benchmarks see Oil 101.

Thanks to the very interesting heatingoil.com for picking this up.

Update (Oct 30): As expected, the CME (parent of the NYMEX) is going to launch futures contracts based on the Argus Sour Crude Index. My guess is that this Saudi announcement will result in net increased volumes for WTI futures rather than less.

Tale of the Curves

2009-10-25T21:56:00.045-04:00

In each of the past four years the spot oil market has traded around US$80 per barrel (see chart 1 below). Over that time, we have seen a high of US$147.27 and a low of US$32.40.

Chart 1: NYMEX WTI Crude Oil 1st Month Price (click chart to enlarge)

What is interesting is the change in the shape of the forward curve each time we have traded at or close to US$80 (see chart 2 below).

For example, December 2015 was US$69.07 on September 14, 2007 (point A in chart 2 ) and is currently US$93.95 (point B). In other words, the expected price of oil in December 2015 has risen by almost US$25 per barrel in the past 2 years.

Chart 2: NYMEX WTI Crude Oil Forward Curves (click chart to enlarge)

The back end of the oil curve has risen steadily due to three reasons: 1. the expected marginal cost of future supply has increased over the past two years; 2. the US dollar is expected to weaken in oil terms; and 3. an early 1980s-type efficiency drive is expected to make demand more resilient to higher prices than demand has been over the past twenty years.

As you may be aware, oil forward curves have historically not been a good predictor of future prices. Forward curves are a summation of current market expectations. Expectations change over time as new information becomes available.

I don't think that the current forward curve correctly reflects the most probable oil price scenario over the next ten years. However, humility in the face of market expectations and an understanding of those expectations is essential before one can disagree with them.

For an explanation of forward curves, look at Chpt. 18 of Oil 101.

Vehicle Purchasing: Value...not Brand

2009-10-20T22:09:00.006-04:00

Vehicle brand loyality in the US is dead (NYTimes). The shift in vehicle purchasing considerations toward value and efficiency and away from brand identity could have a significant impact on US oil consumption over the next 5-10 years.

Bloomberg TV This Afternoon

2009-10-19T11:07:00.020-04:00

I appeared live on Bloomberg TV earlier today to discuss oil.

Oil may rise to $95 a barrel this year as demand for heating fuel kicks in and OPEC sticks to its output reductions... "The oil market is in a glbal supply-driven price rally," said Morgan Downey... "As we head toward the winter season, and so long as OPEC continue to hold oil off the market, the higher prices are likely."

Opec, responsible for about 40 percent of global crude production, is due to meet on Dec. 22 in Luanda, Angola. The December meeting "may coincide with prices reaching the $85 to $95 price level, at which point they will increase production," Downey said.

Downey is the author of "Oil 101," a history of oil exploration and trading. In March, when crude traded around $43 a barrel in New York, he correctly predicted that prices would rebound above $60 a barrel two months before it happened. (source: Blomberg, October 16, 2009)

Financial Sense Newshour

2009-10-17T22:28:00.010-04:00

An audio interview I had with the highly respected Jim Puplava of Financial Sense Newshour is here.

Toward the end of the interview Jim says:

“I’ve read many books on oil and I have to say that your book is in my top five...It’s one if the best books I’ve read....I highly recommend you pick up a copy.”

Oil Market Break Out

2009-10-15T22:08:00.029-04:00

(click chart to enlarge)

Crude oil hit a new high for the year 2009 today, crossing above US$78 per barrel. We have finally broken out of the summer doldrums as we head into what is seasonally the highest demand period of the year for oil.

OPEC members' publicly stated price target is US$70-$80 per barrel. However, once OPEC members increase production prices tend to fall rather than move sideways. So US$85-$95 per barrel is likely the level which has enough of a price buffer to be the range at which OPEC will increase production. OPEC meet next in December and this may coincide with prices reaching the US$85-$95 price level at which point they will increase production.

One of the questions asked in feedback was where do I think the oil market is going longer term (3-5 years). Over such a long time frame it is really only possible to estimate boundaries. It appears unlikely that oil will price above US$150 per barrel in real inflation adjusted terms (2009 dollars) over any 12 month rolling average even if there is a supply shock or long term decline in supply. On the downside, given that the marginal cost of non-OPEC production and the required oil price to balance OPEC government budgets are at least US$60 per barrel it is unlikely prices can persist beneath this level.

The next 5 years is also likely to be an era of extreme divergence within the hydrocarbon business. Some areas are heading for distressful times. Other areas are primed to do very well. We are witnessing a replay of some of the same themes from the early 1980s (see Oil 101). However, this time there will be the twist of a supply crunch and periods of little if any spare capacity.

Feedback 101

2009-10-13T21:58:00.008-04:00

Do you have ideas to improve Oil 101 and/or this web site? The primary goal of the book and this site is to improve understanding of energy issues in order to provide the basis for informed debate. Please email ideas to: morgan@morgandowney.com I respond to every email quickly and am keen to hear advice for improvement or any comments.

Clunker Flunker? An Observation In Hindsight

2009-10-12T19:59:00.045-04:00

The US cash for clunkers program was designed to stimulate economic growth through the auto industry by encouraging individuals to trade in old vehicles for more fuel efficient models. The US$3 billion program ran from July 24 through August 24, 2009. The program resulted in an additional 690,114 cars being traded in. The average fuel efficiency of trade ins was 15.8 mpg and the average for the replacements was 24.9 mpg. Those receiving the clunker subsidy are supposed to be taxed on that benefit so the entire US$3 billion is not lost.

If you do the math, the saving in oil spending over the lifetime of the new vehicles could be great enough to justify the US$3 billion of taxpayer money spent. However, critics point out that the taxpayer is out of pocket for donating this one off efficiency saving to fortunate clunker owners without any benefit in return.

Now that the program is over, the data show that there may be a single unexpected long-lasting benefit.

The month after the clunker program ended, consumers continued to purchase more cars and small vehicles rather than larger light trucks and SUVs. Perhaps vehicle dealers realized that efficiency is the new best selling point - particularly as US consumers are in an increased saving mode following the severe recession? Maybe it took the surge in efficient vehicle sales during the clunkers program for this realization to become widespread? This efficiency trend, if it persists, will help the US economy better survive future oil price spikes.

Let's take it to the charts. Chart 1 shows the brief recovery in US auto sales during the short lived clunkers program.

(click to enlarge chart)

Chart 2 below shows the numbers of cars sold in the US as a percentage of total. The clunkers program achieved what US$147 per barrel could not: 57% of vehicles sold during August 2009 were cars rather than SUVs/Light trucks. This exceeded the 55% number of May08-July08 as oil prices hit record highs. What is most interesting is that the share of car sales has not collapsed to pre-clunker program levels: in September 2009 car sales accounted for 54% of total US sales.

(click to enlarge chart)

Another criticism of the clunkers program was that it encouraged the purchase of imported vehicles rather than domestic. Chart 3 clearly shows that the trend toward sales of imported vehicles has been in place for a long time and that the clunkers program barely made a difference to the trend.

(click to enlarge chart)

Conclusion: While the benefit to taxpayers may not be immediately significant, the cash for clunkers program appears to have had a halo effect on efficient vehicle sales in the US. This efficiency will strengthen the US economy against future oil price shocks and if the trend continues it is a welcome unintended benefit of the clunkers program.

Is Natural Gas the New Oil?

2009-10-10T17:30:00.038-04:00

Source: EIA and IEA data. Chart from Page 7, Fig. 1-3, Oil 101

There have been a number of stories over the past week about the growth potential of natural gas in the US. The optimism over supply has resulted from the application of a technique which fractures natural gas bearing shale rock. The fracturing process involves pumping fluids at high pressure into wells to break the reservoir rock and permit natural gas to flow which would otherwise never move across the tight formation to the well.

The fracturing ("fracing") of tight shale formations is now being investigated for use in Europe and other areas outside the US.

Estimates as to how much additional natural gas can be extracted using such techniques vary extremely widely. Some say that natural gas could become an increasing alternative transport fuel to liquid hydrocarbons (crude oil) in certain applications and certain regions of the world for several decades. Natural gas may also increasingly displace solid hydrocarbons (coal) as a baseload (running all the time) electrical power generation fuel.

What is certain is that the industry is in a state of flux which could turn the oil and gas industry upside down over the next 10 years.

In fact, there is a now frantic effort bubbling to the surface in the US to try to avert a natural gas crisis due to prolonged oversupply and low prices. The effort is focussing on expanding alternative uses for natural gas and if possible linking natural gas prices to liquid hydrocarbon (crude oil) prices which are expected to trend higher due to global supply constaints.

Oil Demand Destruction Destroyed

2009-10-09T06:40:00.001-04:00

The IEA this morning raised its 2010 forecasted oil demand by 0.35 million barrels per day (Mb/d) to 86.1 Mb/d. This means 2010 oil demand will be 1.7% (1.5 Mb/d) above 2009. Almost all of the growth is coming from non-OECD countries with OECD oil demand growth expected to be flat.

Floating Storage Sinking

2009-10-08T20:00:00.000-04:00

A great story by Brian Baskin in the Wall Street Journal about the financial risks involved in storing oil. While storing oil on an opportunistic basis was common earlier in the year. The Journal story shows that in free markets such arbitrages only exist for brief periods:

"Storing oil is rapidly becoming a losing proposition...companies will find it difficult to extricate themselves.." (WSJ)

CNBC This Afternnon

2009-10-08T19:11:00.001-04:00

On CNBC's Closing Bell live today I spoke with Maria Bartiromo about commodities.

(click here to view on CNBC's site if it doesn't open below)

Oil and The Ugly Currency Contest

2009-10-05T21:53:00.012-04:00

A story in the UK Independent claims that an international agreement ("confirmed to The Independent by both Gulf Arab and Chinese banking sources in Hong Kong" - from the news story) is in place among many nations to begin a nine year transition toward trading oil in currencies other than the US Dollar.

However, once again, and as I mentioned here and here, I tell you that the inefficiency of trading a global commodity in many different paper currencies (crossing many currency bid/offer spreads) is far worse than the current USD oil trading system.

Every time this debate arises because some confuse a transactional currency decision with a reserve currency decision. First, the transaction currency decision: the currency in which oil is traded should be the one which is most liquid and widely traded. This minimizes costs for consumers and maximizes revenues for producers.

What consumers and producers do once they own this highly liquid currency after the oil transaction has been completed is a completely separate second decision - a reserve currency decision. Countries are free to sell their liquid currency reserves and immediately buy anything they want, including other currencies or hard assets. This is a separate decision which has nothing to do with why it is best to trade oil in dollars - the most liquid and widely traded currency.

I am not blindly biased in favor of the US Dollar. All paper currencies tend to lose value over time. As Anatole Kaletsky put brilliantly in a Times article a few months back:

"The currency game is not a beauty contest but an ugly contest, in which investors must choose the currency that is least ugly."

For oil trading, the least ugly currency is still the US Dollar.

Final Brazilian Oil Use Observations

2009-10-04T21:58:00.013-04:00

On my way to the airport, a few final interesting transportation observations about Brazil which you are likely to be familiar with if you have been here.

Video One: A significant number number of trucks have the ability to lift some of their wheels off the ground when not fully loaded (to save on fuel). You don't tend to see this to the same extent in other countries.

Video Two: Motorcycles quite commonly create their own unmarked lane between car lanes in which to speed by in convoys. Cars have to be very careful about changing lanes.

Petropolis and the Brazilian Ethanol Subsidy

2009-10-04T21:53:00.008-04:00

This past week has been a big one for Brazil. It was announced that the country will host the 2016 Olympics in Rio de Janeiro. Brazil had already being chosen to host the 2014 soccer World Cup. This was also a week of optimism about Brazil's petroleum sector with large expanded claims about deep offshore oil fields being made.

Although the US is the largest producer of ethanol by volume, ethanol accounts for a larger percentage of Brazil's transport fuel use. Ethanol is the same alcohol in beverages (don't drink from the fuel pump though as there are many often poisonous additives - see footnote below about the bottle in the picture to the right).

In Brazil, most ethanol is made from sugarcane. In the US most ethanol is produced from corn, which is a less efficient energy-wise and a more expensive process. The US does not have the same Brazilian Amazonian conditions to grow such large sugar volumes.

One of the observations I made during my time here was that ethanol prices are extremely low at Brazilian pumps compared to gasoline. I wondered: how this could be with twenty year high sugar prices (US24 cents per pound) and moderate petroleum crude prices (US$70 per barrel)?

A little background first: all gasoline at Brazilian retail stations must by law contain at least 25% ethanol, with the other 75% being petroleum-based gasoline. This blend is known as E25. Most Brazilian retail stations have two pumps: one for E25 snf one for ethanol. All gasoline in the US must contain at least 10% ethanol (E10) and it tends to be only in the US midwest corn belt that second pumps offering high (E85) ethanol blends exist.

The US has a 54 US cents per gallon tariff on ethanol imports. The US tariff is to try to prevent non-US ethanol producers from taking advantage of the hefty 51 US cents per gallon subsidy which ethanol producers in the US receive in order to kick start and scale up US ethanol production.

The US ethanol tariff effectively eliminates the ability of Brazil to export ethanol to the US. Brazil has no import tariff on ethanol.

Brazil has no ethanol subsidy now (it did until the 1990s) and Brazil has called many times for the US to remove its 54 cents per gallon import tariff.

However, in reality Brazil does subsidize ethanol by heavily taxing gasoline. E25 Gasoline in Brazil is roughly US$5.15 per gallon at the retail pump at the moment (BRL 2.40 per liter). Ethanol in brazil is currently US$2.95 per gallon (BRL 1.39 per liter). This equates ethanol to 58% of the cost of E25 gasoline. Ethanol should be around of 70% the cost of E25 gasoline based on the mileage it permits.

The high Brazilian tax on E25 gasoline is effectively a clever ethanol subsidy.

You may wonder why everyone in Brazil doesn't switch away from petroleum gasoline to ethanol? They are, with around 94% of new vehicles sold being flex fuel vehicles capable of burning high ethanol blends. It tends to be imported luxury vehicles and older non-luxury vehicles which still use E25 gasoline.

(note on the picture above: the bottle contains a mineral water from the Brazilian city of Petropolis, which is named after Pedro, the second and last Brazilian Emperor, rather than petroleum. I can vouch from my one bottle that the water is tasty and does not contain any hydrocarbons.)

Brazilian Exceptionalism

2009-09-28T22:29:00.013-04:00

Brazil is exceptional with its beautiful beaches, vast lush land mass and optimism (sounds like the US). I am currently in the center of the scaled biofuels world and it literally smells sweet - at least for Brazil. That sweet smell is alcohol in the air. The alcohol (ethanol) is being derived from sugar cane which rich rainforest cleared land and climate permits. Ethanol produced from sugar cane is used as a fuel for vehicles here on a scale no other country has ever been capable. No other country can replicate Brazil's unique cleared rainforest climate and soils.

Brazil has also recently discovered a lot of relatively high cost conventional hydrocarbons a ways offshore - although this oil is at least five to ten years away from production.

Brazil is an exception in so many way that one wonders if it should be used as an example. I will be posting some observations over the next few days. The first is how well the economy appears to be doing here. Factories are producing, office workers are optimistic, restaurants and stores are busy, the woes of debt laden developed nations and consumers are far from consideration. Demand is good for everything Brazilian.

Financial Times and Floating Storage

2009-09-24T21:44:00.006-04:00

I was quoted in a Financial Times story today on floating storage barrels coming ashore being an oil price lid for the moment:

“The contango has come down,” said Morgan Downey.....“There’s no incentive to keep it offshore any more.” (Financial Times)

Increasing Diversity of Transportation Fuels

2009-09-24T20:15:00.009-04:00

As you will know from Oil 101, natural gas has been finding an increased use as an alternative to oil as a transportation fuel in a particular niche: natural gas is particularly suited to urban bus and trucking fleets as vehicles can be refuelled at the same spot each day and the distances vehicles can travel on a single refuelling is slightly more limited than with diesel.

Until relatively recently compressed natural gas (CNG) had been used mostly for buses and other urban people carriers. Now that natural gas fundamentals have changed such that natural gas prices are extremely low relative to oil, it makes not just environmental sense, but has also become economically sound for private businesses to convert.

An interesting and well researched story today by Brian Baskin at Dow Jones describes how most beer in New York City is being, or will shortly be, delivered with natural gas powered trucks rather than diesel.

Ahoy Ahoy: Floating Storage Coming Ashore

2009-09-23T21:58:00.011-04:00

The chart above (Chart 1) puts this week's bearish US oil inventories (released each Wednesday) in perspective. Oil prices dropped by US$4 to almost US$68 per barrel (NYMEX WTI).

Chart 1 shows total US oil inventories by week. Total US oil inventories increased by 8.5 million barrels. The second chart (Chart 2 below) shows US oil demand which looked as if it may have reached an inflection point over the past month (US gasoline demand is strong, offsetting weak diesel and jet demand).

The big question is now: has something changed that has suddenly derailed the recovery in demand and decline in US oil inventories seen over the past 2 months, or is the past week an anomaly?

One thought is that the increase in inventories could be oil in floating tankers coming onshore now that the forward curve is flattening which removes the incentive to store. So either the forward curve goes into steep contango again or flat price oil is about to fall (or a combination of both) as this floating material comes onshore. Or perhaps extrapolating a single week’s counter trend data point (the trend being falling inventories and higher prices) is not such a wise decision?

The last few weeks of September are always quite a volatile time for US demand and inventories. We are in the low demand shoulder period between driving and heating oil seasons. This week's numbers could be reflecting the data noise during this seasonal transition.

Oil Discoveries Up...Still Not Enough

2009-09-23T21:56:00.062-04:00

Although new oilfields are discovered every year, it is unfortunately a fact that the number of large oilfield discoveries has been in a multi-decades long decline (see Oil 101 for a fuller description of discoveries and reserves).

The few larger discoveries over the past ten years with potentially economically recoverable oil of 3 to 10 billion barrels (Gb) have been warmly greeted, but are insufficient in the grander picture.

To put everything in perspective with these large numbers, bear in mind that there are around 30 Gb of oil consumed each year worldwide and this number grows by 1-2% per year. So, in order to stand still, oil companies around the world have to discover at least 30 Gb of oil each year.

Discoveries of approximately 3-5 Gb of potentially economically recoverable oil off the US Gulf Coast in 2008, 5-10 Gb off Brazil in 2006, 9 Gb in the Caspian Sea off Kazakhstan in 2000, and 6-8 Gb in Iran in 1999 and 2003 were among the largest over the past ten years. There were of course other smaller discoveries in addition to revisions to the sizes of fields previously discovered.

Two newspapers are giving somewhat different perspectives on the long term decline in discovery rates.

The New York Times today states that despite insufficient new oilfield discoveries, one oil industry consulting group believes that higher prices are making up the difference by allowing for reserve expansion in oilfields which are already in production:

"New oil discoveries have totaled about 10 billion barrels in the first half of the year, according to IHS Cambridge Energy Research Associates. If discoveries continue at that pace through year-end, they are likely to reach the highest level since 2000....oil companies have found more oil than they produced for the last two years through a combination of exploration and field expansions." (NYTimes)

Meanwhile, the Financial Times (FT table of some major recent discoveries here) states that while the ability to workover fields as a result of higher oil prices has improved recovery rates, it doesn't change the growing deficit between the lack of discoveries and demand:

"Game-changers locally, the finds do not alter things globally. They are much smaller than the supergiants of the last century, still producing at dwindling rates today ....while the industry is getting better at finding and producing oil – seismic surveys are more accurate and recovery rates higher – these are often incremental improvements rather than technological leaps. The world is still heading for an oil crunch.." (Financial Times)

CNBC Commodities

2009-09-22T13:21:00.009-04:00

On CNBC's Closing Bell live today I spoke with Maria Bartiromo about commodities.

(click here to view on CNBC's site if it doesn't open below)

Real Men Don't Copy Unsuitable Ideas

2009-09-21T18:56:00.001-04:00

An article by Thomas Friedman in the NY Times today calls for the US government to raise retail taxes on oil. In the past I have discussed the futility of raising taxes on oil in the US and why comparing European oil tax regimes to the US is not appropriate.

Even if such a tax could be imposed in the US, Mr. Friedman suggests paying down deficits and funding other non-transportation goals. This would be a bad idea. To avoid negative externalities to the economy, any money raised should be spent improving mass transit, freight rail, and shipping. Otherwise it would be a hugely negative tax on trade and commerce.

We need a US solution which meets the particular challenges of US transportation patterns. The logical and politically acceptable solution is a Vehicle Efficiency Market.

Oil and the White Swan Non-Event

2009-09-20T19:23:00.004-04:00

The expected continues not to happen.

Black swan events tend to be thought of as low probability events which occur. There can also of course be events which are highly expected (White Swans ?) but which do not occur.

As a result of the 2005 hurricane season, 166 million barrels cumulatively were shut in. That was an extreme year for tropical storms. The 2009 hurricane season is now looking as if it will be the other extreme with no oil and gas production shut ins so far.

The US EIA carried out an analysis earlier this year and assigned a 4% probability to the 2009 hurricane season resulting in no shut ins. The EIA forecast a total cumulative shut in value of 4.5 million barrels of crude to be shut in. So far there has been no US Gulf Coast shut ins. The following chart of Google searches for the word hurricane (updated to Sep 13, 2009) nicely reflects the benign nature of the 2009 hurricane season to date.

Chinese Oil Demand Shock

2009-09-16T22:56:00.011-04:00

Running through many historical scenarios for other developing nations such as Brazil and Thailand I have come to the stark conclusion that the market could be underestimating Chinese oil demand growth by a huge amount over the next 2 to 4 years.

China is at a major inflection point in terms of oil demand. This has been borne out by many other countries at similar development stages. If anything, China is 2-3 years overdue an oil demand growth spurt given its income growth. The August 2009 82% year/year jump in annual Chinese auto sales is a harbinger of what is about to come. That 82% is not a typo. China has skipped its traditional seasonal summer decline in vehicle sale entirely so far in 2009 (see chart below).

Chart: Chinese Total Monthly Vehicle Sales in Millions

(click to enlarge)

If China follows a similar pattern to other developing nations then Chinese demand is likely to not just grow by its past 5 year rate of around 5% per year over the next 2 years. Chinese oil demand is on the precipice of a significant jump in annual growth over the next few years. The absolute barrel volumes of oil are enormous.

What is it about 4.6 barrels per year?

2009-09-14T06:26:00.001-04:00

Cats are curious
(a friend of mine behind the computer screen)

Since 1982 the number of people in the world has grown by almost 45% or 2 billion people (chart 1).

Oil supply has been unable to outpace population growth since the 1970s and has from 1982 until recently just been able to keep pace with demand (chart 2). What can one person do with 4.6 barrels (193 US gallons) per year? With a vehicle getting 30 miles per gallon one can drive an average of around 16 miles per day.

Why has per capita consumption been so stable since 1982 having grown at an increasing pace for the prior 120 years (chart 2 again)? The answer is that a new method of rationing demand emerged in 1983: benchmark pricing linked to transparent free liquid markets (see chapter 1 of Oil 101). Free markets and necessarily volatile oil price became the adjusting factor matching available supply to demand.

To put the global average of 4.6 barrels of oil consumption per year in perspective, the number of barrels consumed per person in 2008 in India was 0.9, China 2.2, Brazil 4.6, Germany 11.1 and the US 23.3.

Build your own chart of consumption patterns over time by clicking here (click the 'Play' button to start and the individual country to track over time - set X axis to 'Time' and Y axis to 'Oil Barrels Consumed per Person').

The End of Decline: Oil Demand Recovering

2009-09-08T19:15:00.011-04:00

Ahead of OPEC members meeting Wednesday September 9 in Vienna, it is worth taking stock of why OPEC has no choice but to refrain from making any production changes and why they may in fact need a temporary tightening of compliance with existing quotas by up to 500,000 barrels per day in order to maintain prices above the low US$70s per barrel. Compliance with the 4.2 million barrels per day (Mb/d) cuts announced by OPEC members in late 2008 is currently around 3Mb/d.

--------------

During the 2008-2009 recession global oil demand fell by 2 Mb/d from 86 to 84Mb/d (chart 1). Global demand appears to have stabilized and is beginning to grow again. The charts in this post (click to enlarge) use monthly data and 12 month rolling averages to adjust for seasonality.

Of the OECD decline, one third came from the US, one third from OECD Europe, and one third came from the remaining developed OECD countries.

The US accounts for just under 23% and Europe 18% of 2009 global oil demand. Oil demand in the US and Europe has yet to stop falling (see charts 4 and 5).

Oil demand in the US was destroyed more in absolute barrels over the past few years than in any other region.

The severe demand destruction in the US had a lot to do with current US oil consumption patterns (76% of Americans get to and from work by driving alone) and infrastructure (average US vehicle fleet efficiency is less than half that of available technology). Relatively inefficient consumption allows for swift efficiency gains compared with other parts of the world which are already at or close to maximum technically available oil consumption efficiency.

Looking at total US oil demand (chart 4) one may perceive that it is in a steady decline which can perhaps be extrapolated into the future. However, delving deeper into the data provides clues as to exactly why US demand is declining and why we may be at or quickly approaching the end of the decline in total US demand.

The total number of miles driven on US highways has stabilized and is increasing (chart 6).

Aggregating these three categories of US oil demand into “Industrial” demand, these industrial oils account for 43% of total US oil demand (chart 11).

To see a recovery in US industrial oil demand there would have to be a recovery in consumer spending (linked to unemployment, housing and the savings rate), manufacturing activity (especially autos), and private services sector activity. Most indicators in these macroeconomic areas have begun to stabilize and even improve over the past couple of months.

Conclusion: US industrial oil demand is currently the weakest part of global oil demand and the largest component of global oil demand yet to cease declining. Non-oil macroeconomic indicators suggest that an end to the decline in US industrial oil demand is imminent.

Despite the weakness in OECD oil demand and US industrial oil demand in particular, global oil demand has stabilized and begun growing due to non-OECD demand.

So why have oil prices stabilized in the US$65-75 per barrel range if the reduction in demand has been plumbed at 2Mb/d and the fall is over?

At the end of 2008 OPEC members removed close to 3Mb/d from supply. This was the amount required to stabilize and reduce OECD land based storage. OECD land based storage is the easiest storage to track.

The problem with focusing on OECD land based storage which is no longer increasing is that it ignores difficult to measure global floating storage and non-OECD land based tanks. Floating storage (see chart below) and non-OECD storage continue to creep higher. There needs to be an elimination of inventory growth in these difficult to measure areas in order to hold the prices gains witnessed in 2009.

This elimination of inventory growth can come from the recovery of global demand which appears to be just beginning or a further reduction in supply from OPEC. The number required is around 0.5Mb/d.

At the OPEC meeting this coming Wednesday, September 9, OPEC members have no choice but to maintain existing production cuts. In fact, until nascent global demand growth strengthens, OPEC members may need a temporary 0.5Mb/day improvement in cut compliance (compliance with 4.2Mb/d cuts announced in late 2008 is only around 3Mb/day) in order to stall the increases in floating and non-OECD storage, bring the global market into balance (a balanced market has inventories neither increasing nor decreasing) and hold onto 2009 price gains.

Low Volume Week

2009-09-01T21:49:00.004-04:00

This is the last week of the Summer US driving season. With US bank holiday Labor Day coming up next monday and the UK end of August bank holiday on the Monday just gone, liquidity in oil markets is low. During such periods of low liquidity, oil market reaction to events tends to be a little larger than usual. I was quoted in the Wall Street Journal:

"On any day that you're going to have low liquidity and there's going to be a move in the market, that move is generally going to be exaggerated," said Morgan Downey (WSJ)

Scale of Replacing Fossil Fuels in Perspective

2009-09-01T21:42:00.025-04:00

The physicist David MacKay has written an interesting piece on renewable energy completely replacing fossil fuels. The scale of the challenge is immense - but not insurmountable:

"Today, the average European consumes 120 kilowatt-hours per day. That’s more than double the world average, but lifestyle changes and determined switches to more efficient technologies for transport and heating might enable a modern European quality of life to be enjoyed for an energy cost close to the current world average, perhaps 60 kilowatt-hours per day a person.

What sort of building project is required to deliver that much energy?

For illustration, imagine getting one-third of that energy from wind, one-third from desert solar power and one-third from nuclear power.

If a country with the size and population of Britain — 61 million people — adopted that mix, the land area occupied by wind farms would be nearly 10 percent of the country, or roughly the size of Wales. The area occupied by desert solar power stations — in the case of Britain, they would have to be connected by long-distance power lines — would be five times the size of London. The 50 nuclear power stations required would occupy a more modest 50 square kilometers.

The effort required for a plan like that is very large, but imaginable. Countries that claim to be serious about creating an alternative energy future need to choose a plan, stop arguing and get building." (David MacKay/NYTimes)

This shift toward renewables on such a large scale will only take place if it there is an economic advantage in doing so. This will require a change in the time horizon energy investors seek. For example, most oil and gas investors look to have their initial investment repaid in under 12 years (see the PE ratios of top oil and gas producers).

The repayment time horizon for wind, solar, geothermal, nuclear and other sources of power tends to be much longer than that of fossil fuels.

There are many financial solutions to this timing disadvantage. One solution being used is for the government to step in on behalf of taxpayers and quicken the pace which investors get their money back. Such government spending is unsustainable.

Wind and other renewables have to compete without subsidies if they are to be scaled to the size David MacKay mentions. A shift to renewables on a MacKay scale may have to wait until fossil fuels production declines. Only then will high energy prices provide a sufficiently quick pace for renewable investors.

Ranking the 2009 Hurricane Season

2009-08-31T21:04:00.018-04:00

As described in Oil 101, hurricane season begins on June 1 and ends November 30. The oil market watches its progression closely as Atlantic hurricanes can shut in and damage oil production and refining infrastructure in the Gulf of Mexico. Most oil supply and demand forecasting models assume an "average" hurricane season until about this time when they begin to be rapidly recalibrated.

At the half-way point of the 2009 season it is time to take stock. So far in 2009 we have only seen one hurricane (Bill) and four named tropical storms. At this stage in 2008 we had already seen four hurricanes (Bertha, Dolly, Gustav and Hanna). By this time in record setting 2005, we had witnessed five hurricanes (Cindy, Dennis, Emily, Irene, and Katrina).

Using a different method of putting the 2009 hurricane season in perspective, following is a chart of google searches for the word "hurricane" over the past six years. The chart correlates well with the number and severity of hurricanes.

Chart based on search data from Google.

Oil Data Defines Recession Shape

2009-08-29T19:45:00.012-04:00

It is widely accepted that the recession has ended. Now the debate centers on the type of recovery. I wondered whether the shape of the current recession could be described with oil, or more precisely with oil demand via the number of miles driven on US highways.

Will the recession and recovery be classified as a V (sharp slowdown and equally sharp recovery), U (long trough between entering and exiting the recession), W (two V-shaped recoveries over a short period of time), or L (economic recovery takes a long time or perhaps never occurs) shaped recovery?

The chart below appears to indicate that the US is not going to suffer an L-shaped recovery, but instead is either in a U-shaped recovery or is perhaps on the first leg of a W-shaped recovery. The number of miles driven by US motorists would put the start of the recession at December 2007 and the end at April 2009. In fact, using oil demand data, one can pinpoint the precise nadir of US economic activity during the recession as the first week of October 2008.

Data for above chart from FHWA. Grey bars indicate recessions defined by NBER.

Happy 150th Birthday Oil!

2009-08-27T00:35:00.003-04:00

Exactly one hundred and fifty years ago today, the oil well which started the modern oil industry began producing.

I have been kindly allowed a guest post on The Oil Drum which is the most widely followed energy blog in the world (thanks Gail).

China and Commodities

2009-08-26T17:33:00.016-04:00

I appeared on CNBC's Closing Bell live with Maria Bartiromo today to discuss the impact of Chinese demand on commodity markets.

In the piece, I mentioned the 90 days oil import coverage that the International Energy Agency (IEA) requires member nations to have in storage.

The Chinese government now has 86 days of net oil imports in storage (25 of which are in its strategic stockpile). China needs to build inventories to 90 days in order to join the IEA.

The US meets the 90 day requirement with a combination of its Strategic Petroleum Reserve (SPR) and private storage.

China is following the example of the US and other developed nations in building a buffer of oil to cope with supply shocks.

(click here to view on CNBC's site if it doesn't open below)

NY Times Op Ed on Oil: Reality Check

2009-08-25T20:05:00.080-04:00

The New York Times published an Op Ed piece by a Mr. Michael Lynch arguing that the inability of oil supply to meet demand between 2005 and 2008 is nothing to be concerned about.
I agree with Mr. Lynch that alarmism helps nobody, but his solution is to stick our heads in the sand and ignore reality.

The reality is that global oil production will eventually decline. Oil is a depleting, non-renewable resource. Why shouldn't we plan and prepare for a world of declining oil supply? To do otherwise would be foolish.

Lynch argument: 1a. Oil discoveries are not declining and are keeping pace with consumption.

Rebuttal: 1a. The discovery records from almost all sources show a declining pattern of discoveries since the early 1960s, particularly after adjusting for reserve revisions. I don't know Mr. Lynch and don't know if he has access to global oilfield databases which tend to be quite expensive.

Lynch argument: 1b. Oil is not becoming more expensive or difficult to find and produce.

Rebuttal: 1b. The easy oil has already been found and produced. How do we know this? The resources (energy and funding) required to find and develop incremental oil today have been steadily increasing. This is why the breakeven price of oil for producers has been rising.

Lynch argument: 1c. Advanced production techniques increase oil production rates without reducing total oil produced.

Rebuttal: 1c. Advanced production techniques can increase the daily rate at which oil is produced from a field, but often this comes at the expense of a shorter production lifespan and less total oil produced.

Lynch argument: 2. The politics of the 1970s and '80s is being blindly replayed.

Rebuttal: 2. Mr. Lynch tries to tie the current debate to the oil embargoes from 40 years ago - but tellingly doesn't mention one person, other than himself, making such connections.

The disruptions to oil supply in 1973-74 and the early 1980s were political. What is so disturbing today is that disruptions are not coming from temporary political sources, but an unusually protracted inability of the industry to find sufficient inexpensive oil anywhere.

Lynch argument: 3. Consensus among geologists is that 2.5 trillion barrels of economically recoverable oil is available out of a total remaining endowment of 10 trillion barrels.

Rebuttal: 3. Mr. Lynch's final argument about total resources available being enormous mentions "some geologists" and "consensus". Again, he tellingly doesn't mention one name or organization to substantiate his claims.

There is no such consensus of geologists.

As you know from reading Oil 101 (see chapter 14: reserves), the most commonly cited numbers from BP, 'World Oil' and 'Oil and Gas Journal' put global reserves at around the 1 trillion barrel level. This 1 trillion number is itself comprised of questionably inflated figures, but it is still less than half Mr. Lynch's "consensus" of 2.5 trillion.

Lynch price forecast: Oil will settle below $30 due to offshore oil and other high cost oils.

My view: Mr. Lynch ends with a prediction of US$30 per barrel oil due to increased supply, but then tries to back this up with deep offshore and other high cost sources of oil.

US$30 is not out of the question for brief periods of time such as we saw at the beginning of 2009 when demand collapsed; but when the required price for global marginal oil production is more than US$60 per barrel and increasing, how can US$30 be sustained?

A strange article indeed.

OPEC to Burn the Midnight Oil

2009-08-17T21:48:00.009-04:00

OPEC members' next meeting is on September 9, 2009 at their headquarters in Vienna. At current prices in the mid to high US$60s per barrel they are expected to make no change in quotas and to talk of tighter compliance with existing quotas.

It was announced earlier today in Saudi Arabia that the Islamic month of Ramadan will begin on Friday August 21st (HT: JP Spinetto from Bloomberg).

For the oil market this means that the OPEC meeting on Wednesday September 9 will start after sundown in Vienna, with a decision announced perhaps early in the Vienna morning. Vienna is 6 hours ahead of New York and 1 hour ahead of London.

Ana - First Tropical Storm of 2009

2009-08-15T13:35:00.034-04:00

This morning at 4am EST the first tropical storm of the season, Ana, was named by the US National Hurricane Center (NHC). We haven't had any hurricanes yet this season. The sequence of hurricane development is:

Tropical Depression -> Tropical Storm -> Hurricane

Topical depressions are given numbers. Tropical storms and any subsequently developing hurricanes are given names in alphabetical order which switch from mens to womens names every other year. There are six lists of names (3 mens and 3 womens) which cycle every six years. The names were exhausted once in 2005. Tropical storms and hurricanes are given letters from the Greek alphabet when the list of names runs out.

Hurricanes are important to the oil market as they can shut down production and refining located in the Gulf of Mexico.

Updates:
1: 4pm EST Sat. the second Tropical Storm, Bill, named.
2: 12:15pm EST Sun. the third Tropical Storm, Claudette, named.

(click on graphic above to obtain the lastest NHC update)

Oil Prices a Bubble? No.

2009-08-13T18:22:00.029-04:00

I appeared on CNBC TV's Closing Bell live this afternoon with CNBC's Michelle Caruso-Cabrera and Addison Armstrong. The debate was whether investors should be bracing for a commodity bubble. As you know, I am a fundamental supply and demand guy and am sceptical of blaming anything on bubbles. Monetary bubbles do occur, but often bubbles are used as an excuse.

Clear evidence of a bubble (such as that which occurred in housing) is where there is a increase in prices in addition to an increase in unsold inventories.

Oil, copper and sugar inventories are all low and supply is restrained. This is why prices are rallying. The global inventory evidence clearly shows real fundamentals and not a monetary bubble are the reason for higher prices. (click here to view on CNBC's site if it doesn't open below)

The Waiting Game

2009-08-10T21:38:00.004-04:00

Crude oil prices are stuck in a range between US$55-$75 per barrel. Today I was quoted by the Wall Street Journal:

"We'll stay in this range until will get a weather event or we get a change in supply from OPEC," said Morgan Downey. (source: WSJ)

Floating Storage Holds Oil Price Key

2009-08-10T05:55:00.006-04:00

(chart 1: model based on tanker data. click to enlarge)

Floating inventories should typically decline as demand picks up seasonally moving through the third and fourth quarter. Yet floating storage is increasing (see chart 1 above) to a new record high. Anecdotal evidence lends support to the above analysis.

(chart 2 above: AG to USGC VLCC in US$ per barrel. click to enlarge)

Low freight rates (see chart 2 above) result from OPEC not using tankers they had been using last year when they were producing flat out. This provides the first and most important of a few key incentives to increase floating storage. Another incentive is the shape of the forward curve which needs to be in sufficiently upward sloping contango (see chart 3 below). Future prices have to be above today's price plus the cost of the tanker. There are also financing costs which need to be covered.

(chart 3 above: NYMEX WTI Crude forward price curve. click to enlarge)

As OPEC increasing production will be the supply factor which ends the current oil price rally, changes in the above three charts may provide leading indicators to determine when oil prices have topped out and will begin to move sideways or fall.

Bear in mind that the above analysis is of the supply side of the oil market. As mentioned previously, above US$80 per barrel (oil spending equivalent to 4% of GDP) demand is likely to fall. OPEC may be able to created supply-driven price spikes above US$80 per barrel, but these are unlikely to last.

Blue Skies...But Not For Long

2009-08-03T06:05:00.002-04:00

Two months have passed since Hurricane Season started back on June 1. We haven't had any hurricanes or named tropical storms yet. Hurricane season peaks in the first week of September before ending on the last day of November. Oil markets keep a keen eye on any storms or hurricanes because they disrupt oil production off the US and Mexican gulf coasts.

Warm up your hyperlink to the US National Hurricane Center. There are usually 2 named tropical storms in August and 3 in September.

Barrels and Big Macs

2009-07-31T20:07:00.086-04:00

Dealing with sudden inflows of oil revenue would at first glance seem like a problem any nation would gladly welcome.

However, if oil accounts for an unusually large share of a nation's total exports it can result in the currency of that nation rising too rapidly for non-oil parts of the economy to adjust. The problem is exacerbated by the cost of labor and real estate in that country surging. The currency strengthens and costs become high because of the constant and rapid flow of US dollars in and physical oil, rather than the nations currency, flowing out.

Strong currencies and high costs make it difficult for non-oil exporting industries in a nation to compete internationally.

Oil exporting nations end up with an oil industry and little else. When oil production eventually declines, or oil prices fall, the nation has nothing to fall back on. This is known as Dutch disease and is described further in Oil 101.

The solution to Dutch disease is to try to keep oil revenues invested overseas and to bring it back only when the nation's oil industry begins to wane. This is, of course, extremely challenging to implement. People want money to be spent now and politicians know that one of the surest (but often most reckless) ways to stay in power is to spend money now.

The oil exporting country which is held up as the epitome of avoiding Dutch disease is Norway. Norway is the third largest oil exporter in the world behind Saudi Arabia and Russia. Norway has a very large petroleum fund which keeps revenue invested overseas. Despite this, Norway is an expensive country to live in.

The Economist magazine, which coincidentally coined the term"Dutch disease" in the 1970s, produces a survey of the cost of a McDonald's Big Mac hamburger in various countries across the world. The survey is both a serious and light-hearted method of determining the relative costs of living.

The latest Economist Big Mac Index survey just published shows that a Big Mac in Norway is the most expensive in the world at US$6.15, which is 72% above the same hamburger in the US (US$3.57). Other oil exporting nations didn't fare as badly and most are surprisingly less expensive than the US:

Undervalued vs. the US (local Big Mac price in US$)
Malaysia -47% ($1.88)
Russia -43% ($2.04)
Mexico -33% ($2.39)
UAE -24% ($2.72)
Saudi Arabia -18% ($2.93)
Canada -6% ($3.35)

Overvalued vs. the US
Brazil +13% ($4.02)
Norway +72% ($6.15)

One might think that the high cost of Big Macs in Norway is a recent phenomenon following the run up in oil prices during 2008. However, looking at the following chart of the Big Mac index over the past four years, it shows the persistence by which costs in Norway have remained high.

(source: Bloomberg chart of Economist Big Mac Index - click to enlarge)

Other methods of calculating relative costs, such as those carried out by the OECD, show costs in Norway to be 24% (source: OECD data from Bloomberg) above that of the US. So when a more rigorous and comprehensive analysis is performed the cost disadvantage of Norway may not be as dire as the Big Mac index suggests - but the symptoms of Dutch disease still persist.

The US$325billion (approx. US$70,000 per citizen) Norwegian offshore petroleum fund is large, but perhaps still not large enough to cure Dutch disease.

Oil Price Boundaries

2009-07-31T19:37:00.005-04:00

I discussed the rally up toward US$70 per barrel with the Wall Street Journal:

But higher oil prices could prove the oil rally's undoing, said Morgan Downey....Rising crude futures will eventually translate into higher retail petrol prices, which would force consumers to spend more on fuel and less on other goods that might spur growth in the wider economy. "The increase in oil prices has a real impact on consumers wallets. It's money that is not going to be spent on purchases," Mr Downey said. (source: WSJ)

Blaming Oil Speculators = "I Don't Know"

2009-07-29T21:55:00.028-04:00

The US government has on occasion during several administrations acted irrationally and in anger trying to manage oil prices with disastrous effect on the US economy. As explained in Oil 101, lines at the gas pump in the US during the 1970s were created by the government. If the government did nothing then oil prices would have been higher, but there would have been no shortages at US pumps.

Today we are facing a seismic fundamental shift in the physical oil market. A similar shift has never occurred in the 150 year history of the modern oil industry. When prices become more volatile and there is a lack of understanding of the fundamentals, a visceral reaction is to look for scapegoats to blame. The current scapegoats are speculators.

Blaming volatility on speculators is a face saving way of admitting that the blamer has no idea what is going on in physical oil markets. Physical oil supply and demand explain EVERY price move in oil. As mentioned previously, blaming speculators is not simply wrong, it is dangerous. It is dangerous because it falsely diagnoses the challenges global oil supply is facing.

There is absolutely no need to change US oil markets. Yet such change now seems likely. Politics is about to raise oil prices in the US and lower them for the rest of the world.

My estimate is that certain proposed restrictions in the US will add between 25 to 50 cents per gallon onto US pump prices in the short term (1-2 years) and much more later. US price increases will subsidize price falls in other countries. This is going to hurt US business and consumers to the advantage of other nations. Each US household will transfer up to an additional US$2,000 overseas each year. A woeful vengeance is being extracted by the uninformed. Preventing such a situation was the reason for writing Oil 101.

I was quoted by The Associated Press yesterday:

"If you start to restrict the market, it's hard to see what that achieves," said Morgan Downey..."People don't like to see the prices, but the market is working fine."

Tale of the Curves

2009-07-26T07:26:00.004-04:00

(click to enlarge - data is NYMEX WTI Crude forward curves)

OPEC members play a market balancing act. They want prices to be as high as consumers can bear, but no more. OPEC do not want oil prices to move so high that consumers stop buying and the oil begins to fill storage tanks.

After flattening as oil prices recovered from just above US$30 per barrel at the beginning of 2009, crude oil forward curves have been steepening (contango has become more pronounced) over the past three weeks on oil reaching over US$70 per barrel.

Increasing contango is often a bearish oil price signal as it shows storage owners are seeing more demand for oil to be stored rather than consumed.

We may finally have reached a price point (just above $70) in the 2009 supply driven rally where OPEC's supply cuts have caused prices to rally to a level at which demand wanes.

This is a genuine economic recovery. However, it is a fragile glass-like economic recovery, ready to shatter at any moment. OPEC now have to tread more carefully to ensure that oil prices are not the stone which breaks it.

The 4% Rule: Oil above US$80 Equals Recession

2009-07-19T22:55:00.023-04:00

(WTI Crude at the time of writing is US$64/barrel)
Oil above US$80 per barrel puts the world into an economic death zone. As was evidenced in 2008, brief spikes above US$80 per barrel are possible but not for more than 6 months. Historically, the longer oil prices stayed above the economic death zone level the more severe the following recession.

Oil consumption grows predictably when oil spending is below 4% of GDP. For developing nations, oil demand grows as a function of income (measured by GDP) and population. For developed nations oil per capita consumption tends to be relatively stable and oil demand grows with population.

An observation made in Oil 101 (pages 15-16) is that when spending on crude oil has risen above 4% of GDP, global oil demand has fallen. Such global oil demand destruction occurred in 1973-1974, the early 1980s, the early 1990s and in 2008.

(source: page 17, Fig. 1-10, Morgan Downey, 2009, Oil 101)

(source: page 17, Fig. 1-10, Morgan Downey, 2009, Oil 101)

The crude oil price equating to spending 4% of GDP is shown on the following chart along with historical realized prices. As you can see, in 2009 the oil price which equates to 4% of GDP is US$80 per barrel. Anything above US$80 per barrel may reduce global oil demand and prolong the current recession.

Looking to the future, what if supply declines? How much could oil prices increase? If we hold income (GDP) constant and oil consumption efficiency constant (roughly 4.6 barrels per person globally at the moment) then we get the following chart:

The bottom of the recession zone is the oil price equivalent to 4% of GDP and the top of the recession zone is the price equivalent to 8% of GDP (top of demand destroying price spikes historically).

[Note that if the purchasing power of the US dollar declines in general against all hard assets and not just oil, then, all other things being equal, oil prices equating to 4% of GDP may increase above the levels shown.]

Oil Market Stuck in a Rut

2009-07-15T19:12:00.007-04:00

The oil price rally stalled at the beginning of July in the low US$70s. Oil has since retreated down in the high $50s and low $60s, where it is regrouping in anticipation of an increased pace of global inventory destocking later in the summer. My models (I use floating storage as a leading indicator) are not showing the inventory situation tightening yet....but if its any consolation to oil bulls, global inventories appear to have stopped increasing.

The weekly US oil inventory numbers which come out each Tuesday evening and Wednesday morning were not really a surprise. Oil ticked higher today more due to an improved economic (and equity market) outlook rather than any singular oil data point. The Wall Street Journal quoted my scepticism that today's price rally of around $2 up to $61.54 was due to the weekly US inventory numbers:

"There's no demand number that you can point to ... it's just that (distillate) inventories didn't build as much as expected."

Note that in the quote I was referring to today's (Wednesday's) price action and not anything more long term. To put the long term in perspective, here is a chart of oil prices (NYMEX WTI crude) since 2001:

(click chart to enlarge)

Oil Demand over Time and Income

2009-07-07T21:46:00.031-04:00

In the first chapter of Oil 101, figure 1-13 illustrates how oil demand per capita in an individual country initially evolves due to income changes until income reaches a European or North American level. Once per capita oil consumption reaches 1980 European or North American levels it ceases growing with income.

_{Page 18, Fig. 1-13, Morgan Downey, 2009, Oil 101}

The chart below displays the same data as in Oil 101 but additionally shows the evolution over time. The question for oil forecasting is whether there is enough oil for China, India and other nations in the lower left corner to reach even European levels of oil consumption as their income grows.

(Notes for animated chart above: Vertical axis is annual income per capita. Horizontal axis is barrels of oil consumed per capita per year. The sizes of the circles are related to each nation's relative oil consumption. The chart may be more clear if expanded to your full screen size.)

The chart below is another variation on the same theme, allowing individual countries to be tracked (click on the relevant circle) as well as allowing the scale to be changed from linear to logarithmic. You can click on almost everything in this chart to change the view. Click on the 'Play' button to start the animation.

If you are having problems viewing the above chart or would like to open it in a separate window then click here.

Reviews of Oil 101

2009-06-30T06:34:00.004-04:00

1. A review of Oil 101 just posted by Robert Boyd.

"I am relatively new to the energy business. One of the things I had to do as soon as I started was to take a course given by Baker-Hughes about all the stages of the oil and gas business. It wasn't a bad course, but I now think it would have been better for me just to read Oil 101 by Morgan Downey......Oil 101 is an excellent handbook, and should be on the desk of anyone in the oil (or gas) industry, regardless of where in the value chain you are." (full review here)

2. Another review here.

Escape from Oil ca traz

2009-06-28T21:18:00.004-04:00

At an energy conference in a place called "Alcatraz" University near Perugia, Italy over the weekend, I had a conversation with a Swede about the country with the most agressive plan to almost completely phase out oil use.

Supply-Driven Oil Price Rally

2009-06-28T20:58:00.004-04:00

Carl Etnier from the Rutland Herald wrote an interesting piece on why oil prices have been rising and to role of speculators. Carl mentioned an article to me that said the rally was due to speculators because oil demand is still weak. My response was:

"The thing that annoys me about those sorts of articles [blaming speculation] is that it says oil demand is down and so price should not be rising. Since the beginning of 2009 demand is down year on year by 2 million barrels per day but supply is down over 3.5 million barrels per day (due to OPEC cuts)."

US Traffic Growth

2009-06-19T06:05:00.009-04:00

In April 2009, miles driven by US motorists increased year/year for the first time since late 2007. The US DOT traffic data released today for April is a lagging indicator of oil demand. The average price of crude oil (NYMEX WTI) back in April 2009 was $49.95 per barrel. It will be interesting to see if this traffic recovery continues now that oil is hovering around $70 per barrel. Complicating year/year comparisons this year will that this year's data is being compared to a period when oil prices spiked during 2008 and the credit crisis.

US Inventories & Summer Doldrums

2009-06-18T21:49:00.008-04:00

Chart: Crude Oil (NYMEX WTI) Prices Over the Past 8 Days

The oil market has been chopping sideways around $70 over the past few days. Weekly US oil inventory numbers are released by the DOE each Wednesday at 10:30am New York time. This week the data provided little impetus for any price move for the oil complex. Bear is mind that although US data is widely followed, it is the source of less than a quarter of the world's demand. Nonetheless, US data is viewed as a barometer of global supply and demand. I was quoted in the Wall Street Journal today:

The draw in crude stockpiles and the rise in gasoline "offset each other, and the effect on the market was neutral," said Morgan Downey (WSJ)

Crack Attack

2009-06-16T06:01:00.007-04:00

Cracks are the spread between the price of a finished product (gasoline, diesel and so on) over* crude oil. A crack is usually quoted in US dollars per barrel. The crack could be thought of as oil refinery's US$ per barrel profit margin before the costs of running the refinery.

Over the past few months we have had very low gasoline inventories (as gasoline demand has recovered from the 2008 oil shock causing inventories to fall) but very high diesel and jet fuel inventory (as commercial activity has not recovered to the same extent as gasoline demand).

In 2009, Gasoline cracks (see chart 1) have been increasing while distillate margins (see chart 2) have been decreasing. The net result is that, in 2009, gasoline prices at the pump have increased more quickly compared with crude oil prices. Diesel and jet fuel prices have increased more slowly than crude oil prices in 2009.

Refineries produce a basket of finished products including gasoline, diesel, heating oil, jet fuel and residual fuel. Net refinery profitability (a proxy is called the 321 spread) has moved sideways as higher gasoline margins are offset by lower diesel and jet fuel margins (see chart 3).

Chart 1: Gasoline Crack
Chart 2: Heating Oil Crack (proxy for diesel and jet fuel)

Chart 3: 321 Crack (proxy for total refinery basket margin)

*Cracks tend to be positive except for residual fuel oil cracks which tend to be negative. See Oil 101 for more.

Iran and Oil

2009-06-15T21:21:00.012-04:00

Iran is a strategic pivot point for the oil market. Iran is a large crude oil exporter, it is close to large oil exporting nations and it borders a major oil transit waterway (Strait of Hormuz).

The election result in Iran a few days ago were surprising to some outside of Iran - they shouldn't have been - at least according to Stratfor, a Texas-based private intelligence agency. Stratfor has a summary of how the election resulted in Western Misconceptions Meeting Iranian Reality. Their conclusion:

"For the moment, the election appears to have frozen the status quo in place. Neither the United States nor Iran seem prepared to move significantly, and there are no third parties that want to get involved in the issue beyond the occasional European diplomatic mission or Russian threat to sell something to Iran.(Stratfor)

Plus ça change

2009-06-12T06:26:00.003-04:00

How much oil is stored in the European Union (EU)? Official oil inventory reporting in the EU is weak compared to that compiled in the US. Today the EU "overhauled" its reporting mechanism for oil inventories but rejected a proposal to report inventories weekly (as they are in the US). From Reuters:

"Monthly reporting of stock levels is a small change from the current system under which EU states must confirm each month whether they hold 90 days-stocks, but need provide no more detail." (Reuters)

A Market Yen for Kiloliters

2009-06-11T21:33:00.018-04:00

As mentioned in Oil 101, oil is traded in US dollars because it most efficient for everyone (consumers and producers) involved. Oil floats freely against the US dollar and all currencies. If the US dollar or other currencies weaken then oil prices rise in all those currencies. There is little economic reason for wholesale markets other than in US dollars.

Every once in while there is a suggestion to trade oil more often in Euro or other currencies. Trading oil in non-USD currencies makes comparing the price of oil across the world more difficult. If oil has risen by US$1 per barrel, how much should it have changed in Japanese Yen per kiloliter (the unit used on Japan's TOCOM exchange)? This may seem trivial but this causes an inefficiency which raises prices for Japanese consumers. The issue was discussed in the Wall Street Journal today:

"One of the reasons why oil around the world is traded not just in barrels, but in U.S. dollars per barrel, is because it allows the least amount of computation from one market to another," said Morgan Downey....author of 'Oil 101,' a book about the oil industry." (WSJ)

Crude above $70

2009-06-11T05:50:00.002-04:00

Crude (NYMEX WTI) continues to make new highs for 2009 above $72 per barrel. I was quoted in the Wall Street Journal yesterday:

"Until OPEC increases production or consumers are reluctant to bear high prices we are going to see an increase in the crude price." (WSJ)

OPEC and the Consumer: BFF?

2009-06-09T20:43:00.035-04:00

Which one in the consumer?

Today the oil market (NYMEX WTI crude) traded above US$70 per barrel and closed at a high for 2009. If you read this blog you will have been aware of the reasons for this trend since the turn at US$35 per barrel oil. Fundamental oil bulls have been lonely. Total global inventories are falling. OPEC members have removed more oil supplied than demand has fallen.

US$70-US$80 is the sweet spot at which OPEC and the consumer have declared they would both be comfortable for now given the nascent state of economic recovery. OPEC (read: Saudis) know that they can't open the spigot yet. They need to get prices up to US$90 to allow for some slippage. OPEC members know that consumers haven't got the cash to pay the high prices from 2008 and so members are unlikely to allow prices back above US$100 without finding themselves on the receiving end of some serious net consuming country political pressure.

Hey Mister, Spare US$2,240 a Year?

2009-06-08T22:11:00.011-04:00

Gasoline prices in the US are around US$2.60 per gallon this week. The American Petroleum Institute (API) mentioned today that proposed US climate change legislation would add 77cents per gallon onto US oil prices. A rough calculation converts this to around US$2,240 out of pocket per US household per year. Gross this number up to pre-tax income and it becomes a whopping big number.

Refiners and Heavy Crude

2009-06-08T05:58:00.001-04:00

As you know from Oil 101, OPEC members' marginal production (that which members cut and add to the market) tends to be heavy crude oil. Refineries designed to run on heavy oil are therefore exposed to fluctuations in the price differential between heavy and light crude. When OPEC cut, as they have since the fourth quarter of 2008, heavy crude becomes more scarce and rises in price relative to light crude. This price rise removes some of the advantage which heavy crude refineries paid dearly (with expensive equipment) to have. Here is a Reuters story describing the situation such "complex" refineries face.

Oil Spike in the Works?

2009-06-08T05:53:00.002-04:00

The head of Shell warning today that another spike in oil prices is likely given the lack of sufficient new investment.

Crude oil is set to “spike” without new investments and a price surge is in the making, Royal Dutch Shell Plc Chief Executive Officer Joroen van der Veer said. The global energy industry is facing “severe challenges” and the world needs unconventional energy supplies to meet rising demand... (Bloomberg)

Reserves: an Educated Guess or Maybe Not

2009-06-07T21:42:00.015-04:00

Resources are an estimate of the total amount of a mineral underground which can technically be removed. Reserves, a subset of resources, are an estimate of what can be removed economically at today's prices. The key word to remember is "estimate."

As you know from Oil 101, there are major issues with commonly stated global oil reserves. Some reserves estimates are no more than wild guesses.

As an example of how mineral reserves estimates can be subject to significant readjustment, the U.S. Geological Survey (USGS) has just completed a survey of an area in which one third of US coal is sourced. As a result of the survey, the USGS is now saying that its estimate of US coal reserves may be significantly overstated.

Sometimes reserves remain unquestioned because the answer may be frightening. Sometimes reserves remain unquestioned because the method used to generate the estimate may be even more frightening. For example, if someone asked, "how does the USGS calculate US coal reserves?":

"Every year, federal employee.....calculates America's vast coal reserves the same way his predecessors have for decades: He looks up the prior year's coal-reserve estimate, subtracts the year's nationwide production and arrives at a new official tally." (Wall Street Journal)

Oil is typically more expensive than coal on a BTU (energy content) basis. As oil is a liquid which can release energy quickly, it is primarily a transport fuel. Oil is only used to generate 7% of global electricity. Coal is an electricity generating fuel used to produce around 40% of global electricity.