Supplies are struggling!
Puru Saxena
11:21
Our planet is facing a severe energy crisis, however not many are paying attention. I find it amazing that rather than focus on the very real threat of ‘Peak Oil’, the majority of investors seem to be worrying about the ongoing credit crisis.
Over the past few months, the price of crude oil has dropped sharply due to forced liquidation in every asset-class. Unfortunately, this decline has convinced everyone that the oil ‘bubble’ has burst. Every day, we hear about the usual ‘demand destruction’ myth and people are now convinced that the days of expensive energy are behind us. However, nothing could be further from the truth!
I do not know where the pessimists get their numbers from but according to the International Energy Agency’s (IEA) latest data, world demand is expected to average 86.5 million barrels per day in 2008, which is roughly 0.5% higher than 2007. In 2009, the IEA expects demand to rise to 87.2 million barrels per day, representing a gain of 0.8% when compared to this year. So, at least I am left scratching my head whenever I hear about collapsing demand!
On the supply side, according to the IEA, global output fell by 1.1 million barrels per day in September to 85.6 million barrels per day and the Paris-based energy watchdog expects OPEC’s spare capacity to run out by 2012. Figure 1 shows how supplies have been relatively flat, despite all the recent efforts to ramp-up production.
Figure 1: Supplies are struggling!
Source: International Energy Agency
Despite these bullish fundamentals, the price of crude has swan-dived since July and I am struggling to identify the reason behind this plunge. Apart from forced liquidation on the part of distressed hedge funds and global growth concerns, I cannot see what else could have caused the oil price to go down by roughly 50%. Make no mistake however, the bull-market in energy is not over yet and in fact this is the third significant correction since the uptrend commenced in 1999.
When times are tough, it pays to work that much harder. So, let us review some of the hard data pertaining to the energy markets. Despite what you hear on the airwaves, it is a known fact that out of 78 oil producers, 43 nations are facing declining production and only 35 are expanding output. Therefore, more than half are already in a state of permanent depletion. According to a recent study by the IEA, the rate of depletion of our existing oil-fields is anywhere between 6-9%! This shockingly high number translates into a permanent loss of roughly 4.5-6 million barrels per day every year. So, in order to combat ‘Peak Oil’, we need to increase output by the same amount every single year (from existing and new fields) just to stay even. And, when the economy eventually recovers and demand rockets higher, we would need to raise production even more!
Now, to put the current depletion rate of 6% into perspective, in 10 years time, we would require an additional supply of 40-45 million barrels per day and this is a conservative estimate! In other words, over the next decade, we would somehow have to find new supply to the tune of nearly half of our current output just to meet today’s demand. Now, I am not a petroleum geologist but even I can see that this will be a Herculean if not impossible task!
Moreover, it is worth noting that between 1920-2006, global oil demand grew by 4.8% per annum. Today, our planet has 6.4 billion people, we have 900 million vehicles worldwide and every year, we are adding 40-50 million new vehicles to our existing fleet. Currently, the US has 800 cars per 1,000 people and China has less than 20 cars per 1,000 people. What will happen when nations like China and India start climbing up the prosperity ladder? How will we meet this incremental demand?
Renowned energy investment-banker Matt Simmons notes that if Eastern European vehicle use rose to Western European levels, our world’s oil consumption would go up by 11 million barrels per day. Matt also contends that if China’s vehicle use rose to Eastern European levels (very likely in my opinion), our world’s oil usage would go up by a shocking 26 million barrels per day!
Now, if you happen to believe that ‘Peak Oil’ is a hoax and there is a lot of oil still left to be found, you may want to note that over the past 8 years, we have discovered only 42 small oil fields and not a single one of them was an ‘elephant’ find.
Whether you like it or not, the global economy is heavily dependent on energy. Over the past 20 years, world GDP and oil production growth rates have tracked each other closely. Whenever ample oil gushed through the pipelines, the world’s economic activity picked up. Conversely, shortages of crude caused world GDP to contract. For instance, world GDP dropped by 3% due to the 1973 oil embargoes causing a global recession.
As fuel shortages emerge in the near future, we will see severe economic problems and a contraction in global GDP. And even if OPEC is able to ramp up production, it is likely that its member nations will cut back on their exports so they can save more oil for their own people.
Interestingly, a recent study by UBS estimates that the price of crude oil would have to stay above US$100 per barrel to make tar sands production an economically feasible endeavour. So, as our world’s energy usage climbs, prices would again have to rise sufficiently to bring new supplies online.
Based on all of the above data, I am convinced that the recent sharp decline in the prices of crude and natural gas is the final opportunity you will get to load up on cheap energy. Investors who grasp the reality of ‘Peak Oil’ and take action today will be in a much better position to weather the approaching energy storm. In the past 3 months, energy stocks have been decimated and this is the ideal time to scoop up quality upstream oil & gas companies and energy service stocks. Furthermore, I would also recommend exposure to coal, uranium, wind and solar stocks as a long-term investment.
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