Fusion: National Ignition Facility

The US$3.5billion US National Ignition Facility (NIF) in California was dedicated last Friday (May 29, 2009). NIF researchers will use the world's strongest lasers to study nuclear fusion.

“If fusion energy works,” he said, “you’ll have, for all intents and purposes, a limitless supply of carbon-free energy that’s not geopolitically sensitive. What more would you want? It’s a game changer.” (NYTimes/Ed Moses)

Storms on the Horizon

Hurricane Season begins on June 1 and lasts until November 30. The peak is generally in the first week of Semptember. A large portion of US oil and gas production, refining, storage and importing facilities are located along the US Gulf Coast where many hurricanes and tropical storms pass through. Seasonality of all types is described in Oil 101.

Floating Storage Barrel Count

As expected today, OPEC members decided not to change output and crude oil (NYMEX WTI) hit a new high for the year of $65.44.

Some have said that equity market sentiment, dollar weakness or speculation have caused the recent run up in oil prices.

The relationship between equity markets and oil markets is mostly coincidental rather than there being a causal relationship (wealth effect of equity price movements may have a little causal effect). Equity market sentiment is driven by consumer and other demand-side activities which also impact oil demand.

Dollar weakness is a legitimate factor that can move oil prices in dollar terms. However this effect has been given too much credit for recent oil price moves (more on oil and dollar movement in a coming post).

Blaming speculators for oil price movements has become the most common face saving way of saying "I don't know." Speculation has been proven to have minimal impact on oil prices but is essential in generating liquidity and reducing transaction costs (bid/offer spreads) which reduces prices for consumers.

The main reason for the rally in oil prices has been quite simple. Oil is driven by fundamental physical supply and demand. Currently physical demand is greater than physical supply globally. Above ground oil inventories are no longer increasing and are beginning to fall. Now that we are coming close to the end of the weakest seasonal period for oil demand (second quarter of each year) we should see this oil inventory destocking pace rapidly increase.

Following is a chart of oil stored on floating tankers around the world. Floating storage is a leading indicator in the oil world as it is the most expensive place to store oil and the first to react to changes in fundamentals.

Floating storage beginning to empty is evidence that OPEC members' actions are having their desired effect. Storing oil on floating tankers is described in both the storage chapter and the transporting oil chapter of Oil 101.

[ Update June 7, 2009: A week after my analysis above showing crude floating storage declining a number of articles (DJN and Bloomberg for example) appeared confirming the analysis. ]

OPEC Meeting

OPEC oil ministers are meeting in Vienna tomorrow (Thursday May 28, 2009). Ahead of the meeting the Wall Street Journal quoted me:

"OPEC won't cut output as long as crude remains above $60 a barrel, said Morgan Downey...."They've taken more oil off the market than demand has fallen," he said. "It's just a matter of time before we see higher prices."

Repeal or Amend the US Gas Guzzler Tax

The US gas guzzler tax was created in the Energy Tax Act of 1978 and designed to discourage the purchase of inefficient vehicles. It had precisely the opposite effect.

The tax is paid by a vehicle buyer at the point of purchase. The tax is posted on the same window sticker as the EPA MPG rating at a new vehicle dealership. The gas guzzler tax only applies to cars. As SUVs and light trucks are not affected, the tax has created a major incentive since 1978 to purchase heavy vehicles. Light truck and SUV sales have gone from around 20% of total non-commercial vehicles sold in the US in 1978 to around 50% today (other factors have also played a part, but these have not been government related).

Gas guzzler taxes apply to cars that get less than 22.5MPG, with taxes beginning at $1,000 and increasing to $7,700 for cars which get 12.5MPG or less.

Want to immediately improve the incentive to become more efficient?  Amend the gas guzzler tax to eliminate the exemption for non-commercial light trucks and SUVs or repeal the law entirely and replace with a novel solution like a Vehicle Efficiency Market.

(Oil market environmental regulations are described in Oil 101)

Let the Dog Days of Summer Begin

A pal of mine

US Memorial Day, which is the last Monday of May each year (next Monday, May 25 this year), is the start of US summer driving season. School's out, the weather is good and everyone takes their vacation. With gasoline ($2.30/gal) a lot less expensive than this time last year ($3.20/gal), driving is expected to be higher than last year. Seasonality of all types is discussed in Oil 101.

(Source: DOT and Oil 101 Page 285 Fig 13-2)

US Inefficiency Standard

Need to start thinking outside the box

The US Administration announced today that by 2016 US vehicle efficiency is to be raised to 39mpg for cars and 30mpg for light trucks/SUVs. These new efficiency levels will keep US motorists at least twenty years behind Europe in terms of automotive efficiency. Today's announcement (my emphasis in red):

"...simply allows the United States to match today’s European fleet efficiency (vehicles on the road now) some time after 2030." (NY Times/Lee Schipper)

US car buyers rather than the government need to create demand for ultra-efficient vehicles. A market solution which pushes efficiency aggressively and operates independent of oil price cycles is the vehicle efficiency market. A vehicle efficiency market is fully compatible with the goal of today's announcement - greater efficiency. However, a vehicle efficiency market uses a carrot rather than a stick.

Oil versus...well, almost everything

Knowledge of physical oil supply, demand and inventories is essential to understanding oil values and price formation. However, oil markets do not operate in isolation. General economic conditions and market sentiment link all markets. The skill is determining why cross-market links are occasionally strong and anticipating when markets should decouple. It is also important to not put too much value on random coincidence of price movements in what may otherwise be unrelated markets.

To show the temporary nature of inter-market links, let's take a look at two markets which sometimes move similarly to oil. Let's look first at oil (NYMEX WTI) versus the stock market (US S&P500) over the past twenty years.


Now, let's take a look at crude oil (NYMEX WTI) compared to gold over the past twenty years.

Drilling Crew

What do a derrick man, tool pusher, roustabout, roughneck, driller and company man do?

If you are having a difficult time remembering what the various oil rig hands do (described in Oil 101, Chapter 6: Exploration and Production), then perhaps the following song will help:

Whale Hello There

What is the probability of capturing a whale on video swimming by an oil well? The following video shows a sperm whale checking out a subsea oil well off Norway. It is not too rare to see whales at subsea completions (see another video here).