In­vestors shouldn’t ex­pect short­age of crude sup­plies

More pro­duc­tion, re­new­ables and con­ser­va­tion spell a sur­plus

Houston Chronicle - - BUSINESS - By Gary Shilling

Crude oil prices, both Brent and West Texas In­ter­me­di­ate, are at four-year highs. Traders are talk­ing about a re­turn to $100 per bar­rel, and even higher.

But if you’re a long-term in­vestor, look for oil de­mand to peak and more sub­dued prices in the years ahead — not the sup­ply short­ages and soar­ing petroleum costs as some ob­servers fear. Royal Dutch Shell PLC and Nor­way’s Sta­toil ASA ex­pect the peak in de­mand as soon as the mid-2020s, while BP PLC sees it hap­pen­ing be­tween 2035 and 2040, and the In­ter­na­tional En­ergy Agency is fore­cast­ing 2040.

What a switch from the days of M. King Hub­bert, the geo­physi­cist at Shell Oil in the late 1940s who be­lieved that oil field pro­duc­tion fol­lowed the clas­si­cal bell curve. He pre­dicted that pro­duc­tion in the lower 48 states would top out in the early 1970s, with dire eco­nomic con­se­quences. Few agreed at the time, but Hub­bert proved largely cor­rect, and his ad­her­ents sub­se­quently ex­tended his con­cepts glob­ally and be­lieved that world­wide pro­duc­tion would top out in 2010 or 2012 at the lat­est.

Nev­er­the­less, oil sup­plies have proved plen­ti­ful in re­cent years as out­put surged from Rus­sia, Cana­dian oil sands and, es­pe­cially, U.S. frack­ers. This trou­bles OPEC, which, like any car­tel, ex­ists only to keep prices above equi­lib­rium. That en­cour­ages pro­duc­ers in and out­side the car­tel to strive for more mar­ket share. So OPEC, led by Saudi Ara­bia, has tended to curb its pro­duc­tion to ac­com­mo­date these “cheaters.”

In 2014, OPEC was frus­trated that all the growth in global out­put in the pre­vi­ous decade was go­ing to non-OPEC pro­duc­ers. To teach the “cheaters” a les­son, it hyped its out­put from 30 mil­lion bar­rels per day to 33.8 mil­lion. Prices fell to $27 per bar­rel, but that didn’t chase out Amer­ica’s in­creas­ingly ef­fi­cient frack­ers that now dom­i­nate U.S. pro­duc­tion. As of Au­gust, Amer­i­can shale out­put was 7.7 mil­lion bar­rels per day, ver­sus 3.3 mil­lion from con­ven­tional oil. Amer­ica is now the largest pro­ducer of crude oil, top­ping Rus­sia and Saudi Ara­bia, and pro­duc­tion may only rise as tem­po­rary pipe­line short­ages are over­come, al­low­ing U.S. ex­ports to in­crease.

Else­where, Mex­ico pri­va­tized its deep-wa­ter oil re­serves in 2015, and out­put should climb. Brazil has lib­er­al­ized its oil mar­ket, open­ing its colos­sal deep­wa­ter po­ten­tial to for­eign oil com­pa­nies. North Sea out­put is re­viv­ing. Frack­ing for oil is be­ing de­vel­oped in the Per­sian Gulf, Ar­gentina, Canada, Rus­sia and China.

Oil will be in sur­plus in fu­ture years not only be­cause of in­creas­ing out­put po­ten­tial but also be­cause of ris­ing sup­plies of nat­u­ral gas, which has also been made abun­dant by frack­ing. Amer­i­can gas, af­ter be­ing cooled and con­verted to liq­ue­fied nat­u­ral gas, has huge ex­port po­ten­tial along with LNG from Oman, Aus­tralia and else­where. Then there’s re­new­able sources such as wind, so­lar and bio­fuel to con­sider. These ac­counted for only 12 per­cent of elec­tric­ity gen­er­a­tion last year, but the IEA be­lieves they will make up 56 per­cent of net gen­er­at­ing added ca­pac­ity through 2025.

The cost of re­new­ables is de­clin­ing. A U.S. res­i­den­tial so­lar en­ergy in­stal­la­tion now costs $2.93 per watt on av­er­age, down from $6.61 in 2010. For a large util­i­tyscale sys­tem, the cost has dropped from $3.58 to $1.11 — a plunge of al­most 70 per­cent. Costs are fall­ing for bat­ter­ies and other meth­ods of stor­ing so­lar en­ergy at night and wind en­ergy on calm days. Nev­er­the­less, nec­es­sary gov­ern­ment sub­si­dies for re­new­ables are still sub­stan­tial.

Con­tin­u­ing en­ergy con­ser­va­tion will also re­duce crude oil de­mand. Since 1970, en­ergy con­sump­tion per U.S. dollar of eco­nomic ac­tiv­ity has dropped 61 per­cent in the U.S., 48 per­cent in Ja­pan, 70 per­cent in the U.K. and 43 per­cent in Canada. Cal­i­for­nia just en­acted a man­date for car­bon-free — fos­sil fuel-free — elec­tric­ity by 2045.

While the Trump ad­min­is­tra­tion is cap­ping fuel-ef­fi­ciency stan­dards for au­tos at 37 mpg, down from the Obama ad­min­is­tra­tion’s 54.5 by 2025, elec­tric ve­hi­cle sales are surg­ing and will fur­ther curb gaso­line de­mand. Trans­porta­tion fuel accounts for half of crude oil use, and au­tos con­sume half of that, or 25 per­cent of to­tal oil de­mand.

Then there are the mil­len­ni­als who shun driver’s li­censes in fa­vor of bikes. And ag­ing post­war ba­bies are be­ing forced to give up driv­ing. In ad­di­tion, emerg­ing-mar­ket economies that binged on bor­row­ing in dollars af­ter the fi­nan­cial cri­sis to fi­nance growth and oil de­mand now find them­selves strained as the ro­bust dollar makes it much more ex­pen­sive to ser­vice those debts in lo­cal cur­rency terms. Since most com­modi­ties trade in dollars, their lo­cal cur­rency costs of com­mod­ity im­ports, es­pe­cially oil, are ris­ing as well and curb­ing oil de­mand.

As economies grow, be they de­vel­oped like the U.S. or de­vel­op­ing like China, ser­vices gain a big­ger share of spend­ing while spend­ing on goods fall. That’s an­other long-term de­ter­rent to oil de­mand and the en­ergy needed to pro­duce goods.

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