Peak Oil - The Risks

Eighty-five million barrels a day.

That’s the world’s current production of crude oil…and that may very well be close to the world’s PEAK production of crude oil. Although the recession caused a temporary decrease in consumption, demand is already bouncing back toward pre-crisis levels. Too bad production isn’t.

“Can’t we get more than 85 million barrels?” some folks are bound to wonder. Let’s look into that…

A couple weeks ago, I attended the 2009 international conference of the Association for the Study of Peak Oil and Gas (ASPO), out in Denver. Here’s the long and short of it. We’re in trouble. With a capital “T,” and that rhymes with “P,” and that stands for Peak Oil. By every measure, the world’s output of crude oil peaked between 2005 and 2007.

Yes, the worldwide total output of what we generically call “oil” has risen – slightly – in recent years. But that’s because there are increasing volumes of natural gas liquids (NGLs) in the mix, plus unconventional oil like what the global marketplace obtains from Canada’s oil sands. But the production of oil – actual oil – has peaked already. The future of conventional petroleum output is downhill, even with the future output from the deep-water offshore discoveries.

“There’s no such thing as West Texas Intermediate [WTI] oil anymore,” Peak Oil apologist, Matt Simmons, moaned to the ASPO conference attendees. Instead, the pipeline crossroads like Cushing, Okla., have become little more than “crude oil pharmacies.”

In other words, as the quality of the crude from the traditional US oil patch continues to degrade, oilmen must mix and match their product with “sweeter” forms of crude if they hope to sell it as the premium-priced WTI. Thus, operators at Cushing take whatever oil they can obtain from one place, plus whatever oil they can obtain from another place. They mix and match, and blend it all with synthetic crude from Canada. Maybe they add some imported oil juice and then send it down the line as WTI.

Along these same lines, Venezuelan economist Carlos Rossi stated to ASPO his analysis of oil trends in the US. “You are worried about your foreign oil imports now,” he said. “You in the US import about 65% of your oil today. You don’t like it. But if you follow the clear trends, by 2025, you’ll be importing about 92% of your oil. You’ll like that even less.” No doubt.

The market meltdown and world recession of the past year has bought some time. But the planet is still staring at an energy problem that’s coming down the tracks like a runaway freight train.

Sure, there’s a lot more oil “out there”…as in WAY out there – 150 miles offshore, beneath 8,000 feet of water and 20,000 feet of rock and salt. Yes, that offshore resource is out there, but it’s super hard to extract.

And so what? Aren’t the world’s oil companies busy developing these massive offshore deposits? Yes, but this development will take decades. It’ll take time and capital and expensive cutting-edge technologies, some of which are barely commercially viable.

Future energy supplies have never been more uncertain, according to Simmons. It’s difficult to say with specificity how bad things are, he says, because the data are so poor on a worldwide basis.

“Look at what happened with the bad information we had, or didn’t have, with the financial institutions over the past couple of years,” Simmons said at the recent ASPO Conference. “With our energy data, it’s worse. We’re in for some shocks that will change our lives in ways that’ll rival Pearl Harbor.”

Things could go wrong with energy supplies in any of a dozen places, according to Mr. Simmons. In Venezuela, the output of the state oil company PdVSA is declining at alarming rates due to political interference and underinvestment. In Nigeria, the low-grade civil war could quickly morph into a large-scale civil war. In Iraq, according to Mr. Simmons, “They’re in the dark about how to rebuild their oil industry.”

Closer to home, Simmons expects net oil exports from Mexico to vanish within 24 months or less. This event will play havoc with US refiners on the Gulf Coast. Mexico has simply delayed for too long its effort to explore, drill and rebuild its fast-depleting oil resources. Mexico is going to have to scramble to salvage something from its looming energy disaster.

But even without a supply shock, Simmons believes that the mere inevitability of declining production will cause oil to hit $200 a barrel by the end of next year. Longer term, Mr. Simmons expects to see oil at $500-700 per barrel. “People need to understand how expensive it is to obtain oil,” said Simmons.

Much of the world’s energy infrastructure is old and rusting and will require several trillions of dollars to replace – if it can be replaced. Furthermore, new technology is coming on line slower than most people anticipate. The deeper, more challenging environments are sucking down technology and money, and yielding less than expected in many cases. According to one study, only eight out of 100 major energy projects came in on time, were within budget and yielded the expected volumes of oil and natural gas.

The stark fact is that oil is going to get a lot more expensive and the bull market in oil will be firmly in place for a long time. Smart investors would take advantage of any corrections or dips to get themselves buckled-in for the ride.

Regards,

Byron King,

for The Daily Reckoning