There are now 4 kinds of lies: mine, yours, statistics, and OPEC’s
It was reported in the American Media today that OPEC planned production cuts of 1 million barrels per day (“bpd”). The report cited “unidentified people”.
The U.S. Secretary of Energy was not happy about the report.
"We still need oil for sure. We still need all the oil we can get," U.S. Energy Secretary Sam Bodman told Reuters in a telephone interview October 5, 2006. Bodman said he plans to drive that point home in conversations with OPEC oil ministers. Peak winter demand for heating fuel lies just around the corner.
The media reports have consistently trumpeted “high inventories”. Relative to what? Inventories always build at this time of year, before the winter peak oil demand, and we have not built any new storage facilities to speak of since 2000, even though the economy has grown roughly 20% since then. U.S. oil consumption has increased roughly 5 % during that time, but more importantly, world oil consumption has increased nearly 9% (BP Statistical Review). Some economists point out the difference in economic growth and oil consumption and conclude that the economy is less dependant on oil. Yea? Thankfully, I couldn’t think as slow as those guys if I was asleep. It would seem to me that our economy is that much more LEVERAGED to oil (Secretary Bodman would seem to fall into my camp), and that any decline in the availability would have a correspondingly larger negative impact on the economy, which would also explain the runup in prices. A decline in prices might presage a worldwide recession.
It has been reported that the Kingdom of Saudi Arabia (“KSA”) intends to invest $24 Billion to expand oil production over the next 5 years.
“At a mid-September OPEC meeting in Vienna, Oil Minister Naimi said Saudi Arabia plans to expand production in seven fields to add 2.4 million barrels per day of capacity, boosting its total to about 12.5 million barrels per day by 2009. On Oct. 1, the Saudis announced they would start work in early 2007 on a new oilfield called Moneefa, which will have 900,000 barrels of capacity and come on line in 2011.” Business Week Online, October 5, 2006.
Clearly the KSA is not concerned with a long term drop in the price of oil caused by over capacity. At least $24 billion worth of not concerned.
Further, how can you trust any comments coming out of OPEC? This is not a unified, all for one and one for all merry bunch of guys. Whatever jawboning you hear – for the most part is just that.
``There is no agreement for an informal cut, or any type of cut,'' Kuwait's oil minister, Sheikh Ali-Jarrah al-Sabah, said in an interview. ``I've had no consultations with other ministers.'' Bloomberg October 5, 2006
Here is one quote that I find to be a reasonable attempt at the truth.
" ‘There is concern that the volatility in the markets is so beyond anyone's control that it could cause severe damage to the world economy,’ says Sadad Al Husseini, the retired exploration and production chief of Saudi Aramco, the national oil company. The Saudis, he says, ‘are determined to try and manage better.’ “ October 5, 2006
Count on continuing volatility, perhaps wild volatility, in the price of oil, but don’t count on anything anyone within OPEC says.
mentatt (at) yahoo (dot) com
Friday, October 6, 2006
Thursday, October 5, 2006
The Exponential Function
“Anyone who believes we can have exponential growth in a finite world is either a mad man – or an economist” - Aldus Huxley
Energy
Many a mathematician, physicist, and geologist in the country is familiar with, and most do not dispute, the validity of the argument that we are faced with an unprecedented problem in the form of a permanent energy crisis (just Google "Hirsch Report Peak Oil" and read what the U.S. Department of Energy published in February, 2005). Yet the mainstream press and the public are either uniformed or in complete denial.
The mathematical necessity of the matter can be better illuminated if we become familiar with the concept of the exponential function. Dr. Albert Bartlett, professor emeritus of physics at the University of Colorado (Boulder), has been speaking about the subject for the past several decades and has written an excellent book, which I heartily recommend, titled “The Essential Exponential Function for the Future of our Planet”. For those of you disinclined to read this tome, this paper might suffice.
We have all heard the word “exponential”, but I think a definition is in order. The following is from a lecture given by Dr. Bartlett at the University of Colorado to describe the exponential function.
“This is a mathematical function that you'd write down if you're going to describe the size of anything that was growing steadily. If you had something that was growing at 5% per year, you'd write the exponential function to show how large that growing quantity was year after year. And so we are talking about a situation where the requirements required for the growing quantity to increase by a fixed fraction is a constant 5% per year. The 5% is a fixed fraction, the three years a fixed length of time. So that's what we want to talk about. Its just ordinary steady growth.
Well if it takes a fixed length of time to grow 5%, it follows it takes a longer fixed length of time to grow 100%. That longer time's called the doubling time and we need to know how you calculate that doubling time. It's easy. You just take the number 70, divide it by the percent growth per unit time and that gives you the doubling time. So our example of 5% per year, you divide that into 70, you find that growing quantity will double in size every 14 years.
Well, you might ask, where did that seventy come from, well, the answer is that it's approximately one hundred multiplied by the natural logarithm of two. If you wanted the time to triple you would use the natural log of three. So it's all very logical. But you don't have to remember where it came from, just remember 70.”
Please don’t let your eyes glaze over, I promise not to mention logarithm again; for our purposes here, as Dr. Bartlett says, just remember 70, and doubling time (“T2”).
So what is so important about the rule of 70 and doubling time? Just this, if something is growing at 7% per year, it will double every 10 years (70/7). Something growing at 5% doubles every 14 years (70/5). More importantly, the total amount of the unit measured at the end of the doubling period will be greater than the total of ALL of the preceding doubling periods, and at the end of 10 T2’s is over 1000 times the size of the original amount (1,2,4,8,16,32,64,128,256,512,1024 – 1024 is 10th doubling time). For example, total world Oil consumption grew at 7% per year during the 1950’s, 60’s and most of the 70’s. Using the rule of 70 that means that the world consumed more Oil in the 1960’s than it had in all of human history prior to January of 1960 (look at the above numerical progression - 16 is greater than the total of all the numbers before it (1+2+4+8=15), as are each subsequent number). During the decade of the‘70’s the world consumed more oil than it had from 1859 (Colonel Drake drill’s his well) to December 31, 1969. After the Oil shocks of the 70’s, the period 1980 to present saw much lower exponential growth in Oil consumption, 100% by geological necessity. Had the world continued to double its consumption of Oil each decade from 1980 to the present, the world’s entire endowment of oil would have been consumed, and you and I would be cooking over a dung fire tonight.
To date, the world has consumed just over 1,000,045,000,000 (1 trillion, 45 billion) barrels of oil out of a likely endowment of 2.06 trillion barrels (Dr. Ken Deffeys, professor of geology, Princeton University, and author of "Beyond Oil", another book I strongly recommend). We are currently consuming roughly 30,000,000,000 (30 billion) per year. Well, if there were no steady increase in the use of oil (exponential growth) we would be completely out of oil in 33.3 years (If you want to add a slush number, go right ahead). But this is not the case because A: Demand is increasing at roughly 1.8 % per year and (however) B: Once an oil field has produced more than half of its total endowment of recoverable oil, its production declines each and every year (this is called terminal decline). The last barrels do not come out of the ground at the same speed as the barrels coming out of the ground today. Think about it: what finite resource continues to increase in production until the last unit is consumed? Not a one. The production of gold, oil, iron, coal, etc… from any one field follows a bell curve production cycle; slow but rising in the beginning, the left side of the curve, peaking in the middle, and declining on the right side, the down slope of the bell curve.
So what does this mean to you? Desire to consume oil (notice I did not use the word “demand”) will continue to increase exponentially, but the supply available to satisfy that desire will not be able to grow once the world’s oil supply enters terminal decline. Exponential growth collides head on with terminal decline. No one disputes this. No government, no research university, no oil company executive. Oil is a finite resource and by mathematical necessity its production must peak at some point, and then enter terminal decline. The only debate is when. If the world’s reserve estimates are correct, and I believe they are hopelessly exaggerated by oil producing countries for political gain (future posts will coer this issues), and future discoveries total 160 to 200 billion barrels, the peak is RIGHT NOW, + - 5 years.
We have been receiving price signals from the Oil and Natural Gas markets (some would argue those signals have broken down with the recent decline in price, but volatility is one of the signals), political signals from national governments in the form of resource wars (Iraq), political blackmail (Russia turning off Europe’s Natural Gas Pipeline last January), and the 9/11 attacks on the World Trade Center (Radical Islam is much more aware of this crisis the average American). et al.
Once you understand the exponential function, (its mirror image, the logarithmic function, is the subject of a future post), and how its tenets impact the concept of sustained growth of anything – the economy, population, compound interest, inflation… - you will never view anything that is growing steadily the same again.
mentatt (at) yahoo (dot) com
“Anyone who believes we can have exponential growth in a finite world is either a mad man – or an economist” - Aldus Huxley
Energy
Many a mathematician, physicist, and geologist in the country is familiar with, and most do not dispute, the validity of the argument that we are faced with an unprecedented problem in the form of a permanent energy crisis (just Google "Hirsch Report Peak Oil" and read what the U.S. Department of Energy published in February, 2005). Yet the mainstream press and the public are either uniformed or in complete denial.
The mathematical necessity of the matter can be better illuminated if we become familiar with the concept of the exponential function. Dr. Albert Bartlett, professor emeritus of physics at the University of Colorado (Boulder), has been speaking about the subject for the past several decades and has written an excellent book, which I heartily recommend, titled “The Essential Exponential Function for the Future of our Planet”. For those of you disinclined to read this tome, this paper might suffice.
We have all heard the word “exponential”, but I think a definition is in order. The following is from a lecture given by Dr. Bartlett at the University of Colorado to describe the exponential function.
“This is a mathematical function that you'd write down if you're going to describe the size of anything that was growing steadily. If you had something that was growing at 5% per year, you'd write the exponential function to show how large that growing quantity was year after year. And so we are talking about a situation where the requirements required for the growing quantity to increase by a fixed fraction is a constant 5% per year. The 5% is a fixed fraction, the three years a fixed length of time. So that's what we want to talk about. Its just ordinary steady growth.
Well if it takes a fixed length of time to grow 5%, it follows it takes a longer fixed length of time to grow 100%. That longer time's called the doubling time and we need to know how you calculate that doubling time. It's easy. You just take the number 70, divide it by the percent growth per unit time and that gives you the doubling time. So our example of 5% per year, you divide that into 70, you find that growing quantity will double in size every 14 years.
Well, you might ask, where did that seventy come from, well, the answer is that it's approximately one hundred multiplied by the natural logarithm of two. If you wanted the time to triple you would use the natural log of three. So it's all very logical. But you don't have to remember where it came from, just remember 70.”
Please don’t let your eyes glaze over, I promise not to mention logarithm again; for our purposes here, as Dr. Bartlett says, just remember 70, and doubling time (“T2”).
So what is so important about the rule of 70 and doubling time? Just this, if something is growing at 7% per year, it will double every 10 years (70/7). Something growing at 5% doubles every 14 years (70/5). More importantly, the total amount of the unit measured at the end of the doubling period will be greater than the total of ALL of the preceding doubling periods, and at the end of 10 T2’s is over 1000 times the size of the original amount (1,2,4,8,16,32,64,128,256,512,1024 – 1024 is 10th doubling time). For example, total world Oil consumption grew at 7% per year during the 1950’s, 60’s and most of the 70’s. Using the rule of 70 that means that the world consumed more Oil in the 1960’s than it had in all of human history prior to January of 1960 (look at the above numerical progression - 16 is greater than the total of all the numbers before it (1+2+4+8=15), as are each subsequent number). During the decade of the‘70’s the world consumed more oil than it had from 1859 (Colonel Drake drill’s his well) to December 31, 1969. After the Oil shocks of the 70’s, the period 1980 to present saw much lower exponential growth in Oil consumption, 100% by geological necessity. Had the world continued to double its consumption of Oil each decade from 1980 to the present, the world’s entire endowment of oil would have been consumed, and you and I would be cooking over a dung fire tonight.
To date, the world has consumed just over 1,000,045,000,000 (1 trillion, 45 billion) barrels of oil out of a likely endowment of 2.06 trillion barrels (Dr. Ken Deffeys, professor of geology, Princeton University, and author of "Beyond Oil", another book I strongly recommend). We are currently consuming roughly 30,000,000,000 (30 billion) per year. Well, if there were no steady increase in the use of oil (exponential growth) we would be completely out of oil in 33.3 years (If you want to add a slush number, go right ahead). But this is not the case because A: Demand is increasing at roughly 1.8 % per year and (however) B: Once an oil field has produced more than half of its total endowment of recoverable oil, its production declines each and every year (this is called terminal decline). The last barrels do not come out of the ground at the same speed as the barrels coming out of the ground today. Think about it: what finite resource continues to increase in production until the last unit is consumed? Not a one. The production of gold, oil, iron, coal, etc… from any one field follows a bell curve production cycle; slow but rising in the beginning, the left side of the curve, peaking in the middle, and declining on the right side, the down slope of the bell curve.
So what does this mean to you? Desire to consume oil (notice I did not use the word “demand”) will continue to increase exponentially, but the supply available to satisfy that desire will not be able to grow once the world’s oil supply enters terminal decline. Exponential growth collides head on with terminal decline. No one disputes this. No government, no research university, no oil company executive. Oil is a finite resource and by mathematical necessity its production must peak at some point, and then enter terminal decline. The only debate is when. If the world’s reserve estimates are correct, and I believe they are hopelessly exaggerated by oil producing countries for political gain (future posts will coer this issues), and future discoveries total 160 to 200 billion barrels, the peak is RIGHT NOW, + - 5 years.
We have been receiving price signals from the Oil and Natural Gas markets (some would argue those signals have broken down with the recent decline in price, but volatility is one of the signals), political signals from national governments in the form of resource wars (Iraq), political blackmail (Russia turning off Europe’s Natural Gas Pipeline last January), and the 9/11 attacks on the World Trade Center (Radical Islam is much more aware of this crisis the average American). et al.
Once you understand the exponential function, (its mirror image, the logarithmic function, is the subject of a future post), and how its tenets impact the concept of sustained growth of anything – the economy, population, compound interest, inflation… - you will never view anything that is growing steadily the same again.
mentatt (at) yahoo (dot) com
The United Kingdom passes from Oil exporter to Oil importer
“Houston, we have a BIG problem” - Matt Simmons, speaking before the U.S. Department of Defense, June, 2006, the seriousness of the energy situation facing the United States.
Based on data published by the 2006 British Petroleum Statistical Review, Europe’s Oil imports are expected to grow 29% by 2012. Currently, the European Union’s population of 460 million consumes over 15 million barrel per day (”bpd”). Until the discovery of the North Sea’s prodigious oil fields Europe essentially imported all of its liquid petroleum fuel requirements. Unfortunately, the North Sea’s production has been declining at roughly 8% per year since 2000 (1999 for the UK and 2001 for Norway if you want to be picky), and many knowledgeable (I never use the word "expert" unless I am quoting someone) people believe that there is a high likelihood that the rate of decline will accelerate.
“Applying a 0.5% growth in consumption and a 8% production decline rate points to EU oil imports growing from 9.8 million barrels per day (bpd) in 2005 to 12.6 million bpd by 2012 - an increase of 29% over the next 6 years.” Dr. Euan Mearns, PhD
Dr. Mearns believes that the UK alone, which was an exporter as of 2005, will need to import over 1 million bpd by 2020. Where is Europe’s new import requirement going to come from? Said another way, which exporter(s) are going to have the capacity to step up their exports (production – domestic consumption) 2.8 million bpd – and that’s just for Europe. During the same time Asia’s import requirement will grow by at least 5 million bpd.
The world has been unable to increase production for at least 22 months (each month’s production has been within 1% of the monthly average during that time frame) at an average production of just over 84 million bpd of “All Liquids” (crude oil production has actually fallen during the time frame, the difference is NGL and condensates). So tell me, where is the extra 7.8 million bpd going to come from? – and that’s just for Europe and Asia, to say nothing for growth in demand in the rest of the world.
Indonesia, a member of OPEC, has gone from an expoter to an importer. The UK is making the transition. Mexico might cross over in 2010-12. If the net number of barrels available for export worldwide declines on a continuous basis what is the effect on the price of the marginal barrel of Oil?
It is going to be a wild ride.
mentatt (at) Yahoo (dot) com
“Houston, we have a BIG problem” - Matt Simmons, speaking before the U.S. Department of Defense, June, 2006, the seriousness of the energy situation facing the United States.
Based on data published by the 2006 British Petroleum Statistical Review, Europe’s Oil imports are expected to grow 29% by 2012. Currently, the European Union’s population of 460 million consumes over 15 million barrel per day (”bpd”). Until the discovery of the North Sea’s prodigious oil fields Europe essentially imported all of its liquid petroleum fuel requirements. Unfortunately, the North Sea’s production has been declining at roughly 8% per year since 2000 (1999 for the UK and 2001 for Norway if you want to be picky), and many knowledgeable (I never use the word "expert" unless I am quoting someone) people believe that there is a high likelihood that the rate of decline will accelerate.
“Applying a 0.5% growth in consumption and a 8% production decline rate points to EU oil imports growing from 9.8 million barrels per day (bpd) in 2005 to 12.6 million bpd by 2012 - an increase of 29% over the next 6 years.” Dr. Euan Mearns, PhD
Dr. Mearns believes that the UK alone, which was an exporter as of 2005, will need to import over 1 million bpd by 2020. Where is Europe’s new import requirement going to come from? Said another way, which exporter(s) are going to have the capacity to step up their exports (production – domestic consumption) 2.8 million bpd – and that’s just for Europe. During the same time Asia’s import requirement will grow by at least 5 million bpd.
The world has been unable to increase production for at least 22 months (each month’s production has been within 1% of the monthly average during that time frame) at an average production of just over 84 million bpd of “All Liquids” (crude oil production has actually fallen during the time frame, the difference is NGL and condensates). So tell me, where is the extra 7.8 million bpd going to come from? – and that’s just for Europe and Asia, to say nothing for growth in demand in the rest of the world.
Indonesia, a member of OPEC, has gone from an expoter to an importer. The UK is making the transition. Mexico might cross over in 2010-12. If the net number of barrels available for export worldwide declines on a continuous basis what is the effect on the price of the marginal barrel of Oil?
It is going to be a wild ride.
mentatt (at) Yahoo (dot) com
Tuesday, October 3, 2006
Markets zig & zag. Markets don’t zig & zig.
Today someone asked me: “If there is an Oil supply problem coming in the near future, why is the price of Oil going down?” A fair question, I believe. I casually replied that markets zig & zag (these are technical terms), they don’t zig and zig. Let me translate: markets such as that for crude oil move up and down for a variety of reasons: seasonal, political, economic… they do not move up and up or down and down or flat and flat. If they did, why the hell would we need traders, bankers, economists, analysts...
I have no definitive answer for the price movement of any security, commodity, property, etc… in the short term. If I did, I wouldn’t need to be gainfully employed (nor would any of the professional economists we hear so much from in the media). That disclosure aside, oil, like any commodity, trades at the margins. It’s that last barrel that moves prices up or down, not the million before it. 1% too much oil can move the price of 100% of the oil down 25%, (we just saw that in the last 6 weeks with oil falling from $78 to $58). The mirror image is true, too. 1% too little oil and the price might be $75, $85, $100…
That, in my humble opinion, is where we are going (and where we have been). We will continue to see substantial volatility in the price of oil in the spot and front month markets as we move back and forth from 1% too much, to 1% too little. Now pay close attention – the price of oil just zagged, hard (now please see title of article).
China, India, the Former Soviet Union, and most of Asia with the exception of Japan, demand more and more oil to power their economies - and winter is coming (Unless it gets called off again). Although the U.S. consumes 25% of the world’s oil, it’s the MARGINAL consumer that matters. Why are the Asian economies the marginal consumer? To paraphrase Willie Sutton – because that’s where the growth is; because that’s where major industrialization is taking place; because that’s where the population is. If China’s population enjoyed our lifestyle, they would be consuming over 80 million barrels of liquid petroleum products per day – about 95 % of what the entire world now consumes. Where is that oil going to come from? What country? What field? What province? We have identified the marginal consumer - where is the marginal producer?
1% too little will be here before you know it.
Today someone asked me: “If there is an Oil supply problem coming in the near future, why is the price of Oil going down?” A fair question, I believe. I casually replied that markets zig & zag (these are technical terms), they don’t zig and zig. Let me translate: markets such as that for crude oil move up and down for a variety of reasons: seasonal, political, economic… they do not move up and up or down and down or flat and flat. If they did, why the hell would we need traders, bankers, economists, analysts...
I have no definitive answer for the price movement of any security, commodity, property, etc… in the short term. If I did, I wouldn’t need to be gainfully employed (nor would any of the professional economists we hear so much from in the media). That disclosure aside, oil, like any commodity, trades at the margins. It’s that last barrel that moves prices up or down, not the million before it. 1% too much oil can move the price of 100% of the oil down 25%, (we just saw that in the last 6 weeks with oil falling from $78 to $58). The mirror image is true, too. 1% too little oil and the price might be $75, $85, $100…
That, in my humble opinion, is where we are going (and where we have been). We will continue to see substantial volatility in the price of oil in the spot and front month markets as we move back and forth from 1% too much, to 1% too little. Now pay close attention – the price of oil just zagged, hard (now please see title of article).
China, India, the Former Soviet Union, and most of Asia with the exception of Japan, demand more and more oil to power their economies - and winter is coming (Unless it gets called off again). Although the U.S. consumes 25% of the world’s oil, it’s the MARGINAL consumer that matters. Why are the Asian economies the marginal consumer? To paraphrase Willie Sutton – because that’s where the growth is; because that’s where major industrialization is taking place; because that’s where the population is. If China’s population enjoyed our lifestyle, they would be consuming over 80 million barrels of liquid petroleum products per day – about 95 % of what the entire world now consumes. Where is that oil going to come from? What country? What field? What province? We have identified the marginal consumer - where is the marginal producer?
1% too little will be here before you know it.
Big Spending on Exploration & Production (and not a lot to show for it);
John S. Herold, Inc., a Stamfod, Ct., based research firm recently compiled data from the 203 largest, publicly traded, energy exploration and production companies. I’ll sum it up quick.
The companies raised their 2005 budget for exploration and production by a total of $277 BILIION, up 31% from 2004.
For their trouble, these companies increased their gross production 1%, and their reserves by 2%.
Even more telling, they spent $35 Billion on exploration, the balance of their E & P budget was spent on production. THEY SPENT $65 BILLION ON DIVIDENDS AND STOCK BUY BACKS.
This should be quite disconcerting for those of you clinging to the mistaken economic concept (geology trumps economics when it comes to oil extraction) that the incentive of higher prices will lead to greater production and reserves increases, as it should for our energy policy makers and their data production minions.
The most recent discovery of a super giant oil field was in the mid 1970’s in Mexico. We have not found a field like Cantarell in over 30 years. Either we have been incredibly unlucky for 3 decades, or there are no more super giants left to discover. Makes sense to me, considering that we are now drilling down in 7,000 feet of water and 20,000 feet of earth, 170 miles from land, in search of new deposits. That would certainly not make a lot of sense if there were a super giant just waiting around to be discovered in Central Park.
If the top 203 E & P companies increase E & P spending $277 Billion per year and cannot increase production by more than 1%… Think about it: the industry is spending a TOTAL of nearly $1 Trillion on E & P to increase production 1% per year when consumption is growing nearly 2% per year. To paraphrase Mark Twain: Reports of the demise of the energy crisis have been greatly exaggerated:
Greg Jeffers
mentatt (at) yahoo (dot) com
John S. Herold, Inc., a Stamfod, Ct., based research firm recently compiled data from the 203 largest, publicly traded, energy exploration and production companies. I’ll sum it up quick.
The companies raised their 2005 budget for exploration and production by a total of $277 BILIION, up 31% from 2004.
For their trouble, these companies increased their gross production 1%, and their reserves by 2%.
Even more telling, they spent $35 Billion on exploration, the balance of their E & P budget was spent on production. THEY SPENT $65 BILLION ON DIVIDENDS AND STOCK BUY BACKS.
This should be quite disconcerting for those of you clinging to the mistaken economic concept (geology trumps economics when it comes to oil extraction) that the incentive of higher prices will lead to greater production and reserves increases, as it should for our energy policy makers and their data production minions.
The most recent discovery of a super giant oil field was in the mid 1970’s in Mexico. We have not found a field like Cantarell in over 30 years. Either we have been incredibly unlucky for 3 decades, or there are no more super giants left to discover. Makes sense to me, considering that we are now drilling down in 7,000 feet of water and 20,000 feet of earth, 170 miles from land, in search of new deposits. That would certainly not make a lot of sense if there were a super giant just waiting around to be discovered in Central Park.
If the top 203 E & P companies increase E & P spending $277 Billion per year and cannot increase production by more than 1%… Think about it: the industry is spending a TOTAL of nearly $1 Trillion on E & P to increase production 1% per year when consumption is growing nearly 2% per year. To paraphrase Mark Twain: Reports of the demise of the energy crisis have been greatly exaggerated:
Greg Jeffers
mentatt (at) yahoo (dot) com
Monday, October 2, 2006
Energy Constrained, Carbon Constrained – "That’s just the way it is"
Investors should familiarize themselves with 2 concepts - an energy constrained environment, and a carbon constrained environment. This will certainly be THE big business story over the next decade (I use the singular form for the 2 as they are 2 sides of the same coin).
Those of you who have been reading my reports are familiar with my view of the challenges future energy supplies, or lack thereof, present. Previously, I have made no mention of what I believe will be substantial government regulation by various foreign and domestic governing bodies of the amount of greenhouse gases, particularly Carbon dominated compounds, which are released into the atmosphere as a result of the combustion of hydrocarbons (notice the ‘carbon” in hydrocarbon) for industry, transportation, heating & cooling, etc…
There are many intelligent, and some not so intelligent, proposals for using market mechanisms to reduce the rate of carbon released into the atmosphere. I will not bore you with the list here (but I will in a future post). Suffice it to say, they are coming, they will be politicized, they will make a lot of people unhappy, and they will affect us all - profoundly. I believe that some other non-market mechanisms, like rationing carbon emissions, are extremely likely.
My firm considers issues for Real Estate investors (our subsidiary SEC registered Broker/Dealer does the same for financial market participants. Federal securities regulations prohibit me, as I hold a securities license, from making specific recommendations in individual securities or other strategies in this forum. I am permitted to comment in general on markets, industries, economic conditions, currencies, etc…), and I believe that these issues are coming at us like a freight train with its lights off and its whistle broken. So pay attention. Educate yourself. Consider the possibilities and probabilities that these eventualities will come to pass at a time that will affect your current holdings.
You might perform an online search for MIT’s Energy initiative. Here is an interesting, and short, article from MIT’s Technology Review:
http://www.technologyreview.com/read_article.aspx?id=17561&ch=energy&sc=&pg=1
Don’t listen to the media. Hit the search engines and Amazon. With the wondrous web you can educate yourself with data from the source, not filtered through some cerebrally numbed talking head (I sit up at night thinking of new descriptions for these “journalists”).
Speaking of cerebrally numbed… a recent Gallop Poll said 42% of Americans believe that the Bush Administration manipulated the Oil markets in an effort to lower the pump price of gasoline prior to the mid-term elections next month. George Will said the following regarding the idiotic claims that The President was not “handling” the price of oil earlier this year. “Does anybody over the age of 7 really believe that a President can “handle” the price of oil in the world market?” I could not have said it better, myself. Still it begs the question: Is 42% of the U.S. age 7 or under? GET REAL, PEOPLE!
I have a better question. When the U.S. Department of Energy was created in 1977, the United States imported approximately 15% of the oil it consumed; was it the department’s intention that the United States would depend on imported oil for roughly 60% of its consumption today? Projections of as high as 80% dependence on foreign oil by 2020 have been reported. Does anybody over the age of 7 think that this is a good idea?
Mentatt (at) Yahoo (dot) com
Investors should familiarize themselves with 2 concepts - an energy constrained environment, and a carbon constrained environment. This will certainly be THE big business story over the next decade (I use the singular form for the 2 as they are 2 sides of the same coin).
Those of you who have been reading my reports are familiar with my view of the challenges future energy supplies, or lack thereof, present. Previously, I have made no mention of what I believe will be substantial government regulation by various foreign and domestic governing bodies of the amount of greenhouse gases, particularly Carbon dominated compounds, which are released into the atmosphere as a result of the combustion of hydrocarbons (notice the ‘carbon” in hydrocarbon) for industry, transportation, heating & cooling, etc…
There are many intelligent, and some not so intelligent, proposals for using market mechanisms to reduce the rate of carbon released into the atmosphere. I will not bore you with the list here (but I will in a future post). Suffice it to say, they are coming, they will be politicized, they will make a lot of people unhappy, and they will affect us all - profoundly. I believe that some other non-market mechanisms, like rationing carbon emissions, are extremely likely.
My firm considers issues for Real Estate investors (our subsidiary SEC registered Broker/Dealer does the same for financial market participants. Federal securities regulations prohibit me, as I hold a securities license, from making specific recommendations in individual securities or other strategies in this forum. I am permitted to comment in general on markets, industries, economic conditions, currencies, etc…), and I believe that these issues are coming at us like a freight train with its lights off and its whistle broken. So pay attention. Educate yourself. Consider the possibilities and probabilities that these eventualities will come to pass at a time that will affect your current holdings.
You might perform an online search for MIT’s Energy initiative. Here is an interesting, and short, article from MIT’s Technology Review:
http://www.technologyreview.com/read_article.aspx?id=17561&ch=energy&sc=&pg=1
Don’t listen to the media. Hit the search engines and Amazon. With the wondrous web you can educate yourself with data from the source, not filtered through some cerebrally numbed talking head (I sit up at night thinking of new descriptions for these “journalists”).
Speaking of cerebrally numbed… a recent Gallop Poll said 42% of Americans believe that the Bush Administration manipulated the Oil markets in an effort to lower the pump price of gasoline prior to the mid-term elections next month. George Will said the following regarding the idiotic claims that The President was not “handling” the price of oil earlier this year. “Does anybody over the age of 7 really believe that a President can “handle” the price of oil in the world market?” I could not have said it better, myself. Still it begs the question: Is 42% of the U.S. age 7 or under? GET REAL, PEOPLE!
I have a better question. When the U.S. Department of Energy was created in 1977, the United States imported approximately 15% of the oil it consumed; was it the department’s intention that the United States would depend on imported oil for roughly 60% of its consumption today? Projections of as high as 80% dependence on foreign oil by 2020 have been reported. Does anybody over the age of 7 think that this is a good idea?
Mentatt (at) Yahoo (dot) com
Friday, September 29, 2006
Energy, the U.S. $, and South Florida Real Estat
``There's no gentle way of saying this, we need to find oil fast.'' Han Wenke, 51, deputy director of the Beijing based Energy -Research Institute, an arm of China's planning ministry.
Energy
Crude Oil fell from a peak of $78+ to under $60 as of this morning’s trading. A sense of “well, we don’t have to worry about energy anymore” has descended upon mankind. As the famous game show host used to say: “EEGHGHGH!!! Wrong! Thanks for playing!”
“All I know is what I read in the newspapers” – Will Rogers
If all you know is what you read in the newspapers, you have been misinformed. For the past 20 years Crude Oil (and its derivative products) experienced a seasonal decline in price each Fall, averaging nearly 20%. This year’s decline was earlier and steeper than expected, but in hindsight, the steepness of the rise in price was warranted at that time considering the supply risks – and the steepness of the decline was warranted by the removal, even if temporary, of these risks. Further, several large hedge funds have experienced tremendous losses on heavily leveraged positions, and were forced to sell billions of dollars of commodities and securities positions in less than 2 weeks. Yet, the futures market has prices in the mid 70’s going out 5 years. In other words, the pros think controlling oil in the mid 70’s for the next 5 years is going to make them money – and that the price will be higher than the contract price (otherwise one would buy at the spot price).
After review of the supply numbers for the U.S. for January to August, 2005 vs the same period for 2006
(You can review U.S. domestic production and imports yourself, just go to: http://tonto.eia.doe.gov/dnav/pet/hist/wceimus2w.htm and http://tonto.eia.doe.gov/dnav/pet/hist/wcrfpus2w.htm)
total supply actually went down... The U.S. Energy Information Agency (“EIA”) reports that demand was 20.73 million barrels per day (“mbd”) in 2004, 20.66 mbd in 2005, and expects 20.66 mbd in 2006. Let me be the first to point out that NOT ALL OF THE NUMEBRS ADD UP PERFECTLY (the data sources are disparate, but it’s the trend we are looking for)… but if imports are down, and domestic production is down, and demand is flat… why are inventories “high”? Maybe they are not. Total supply is not the correct method of measurement – the number of day’s supply is the correct unit of measure.
“OECD inventories began the second quarter at the upper end of their past 5-year range for this time of year. However, when measured on the basis of how many days of demand the current supply could meet, OECD inventories were only in the middle of their observed 5-year range. By the end of 2007, EIA projects days of supply of OECD inventories to finish at the bottom of the 5-year range for that time of year, which is expected to make the market even tighter.” U.S. Department of Energy, Energy Information Agency, 9/12/06
Which begs the question: With the economy growing at better than 3.5 %, on average, every year, since 1999 (these are the years the reported comparisons of inventory encompass), why has there been no corresponding increase in storage facilities? If you expected growth in supply and consumption to continue unabated, wouldn’t you increase your capacity to hold inventory in proportion to maintain the same level of days of supply? Well, we have not, and it is either a strategic blunder - or brilliant planning. Why might it be brilliant? If future supplies do not increase, increasing storage capacity would raise unutilized production capacity.
At times like this it is important to “keep your eye on the ball”, the supply/demand equation. For better or worse, circumstances have not improved on this front and the energy dilemma is still with us, and not to put too sharp a point on it…
The production of Oil from the leading exporting nations has been flat for 2 years, yet their own domestic consumption has been rising. It then follows that their export capacity will fall. If this continues, importing nations (like the U.S.) will, by necessity, compete amongst themselves for the remaining oil.
“At a time when questions exist concerning the ability of the top 14 states to increase production, dramatic increases in domestic consumption of oil in these states is ominous. Morgan Stanley Hong-Kong based analyst Andy Xie in 2005 wrote that the only reason the price of oil was going up was because of growth of Chinese demand. This view is ridiculously incomplete. Oil consumption growth in the major exporting states – OPEC and Russia – without corresponding increases in production, will lead to declines in the amount of exportable oil, leading to increased competition for the remaining exportable barrels of oil.” - Randy Kirk
China, India… China, India… “Chindia”… there is no doubt that these gigantic populations are going to drive the majority of the increased energy demand picture over the next decade. Here is something the market (and those screwy media reporters) have not factored into the demand equation. The collapse of the Soviet Union and subsequent economic fallout depressed the consumption of the countries of the Former Soviet Union (“FSU”) by at least 4.3 mbd during the 1991 – 2005 period.
“In retrospect, the best way to review key fundamentals is to look carefully at changes in global supply and demand, and where they’ve come from. Between 1991 and 2005, global demand for oil grew by 16.6 million b/d. More astonishing is that non-FSU demand grew from 58.9 million b/d in 1991 to 79.8 million barrels a day in 2005. In other words, outside the unanticipated collapse of the Former Soviet Union, the rest of the world's oil demand grew by 20.9 million barrels a day in just 14 years (35%; 2.5% per year) vs. the projection by many oil pundits that oil demand growth was certainly slowing down.” (emphasis added)… in the meantime, non-OPEC oil supply, outside the FSU, grew in that same 14 years, but only by a modest 6.7 million b/d, from 31 to million b/d to 37.7 million b/d. That’s less than 0.5 mbd per year. Too many important regions peaked and went into decline. Had the FSU not been able to grow from 10.4 million to 11.6 million b/d and OPEC grown from 25.6 million to 34.2 million b/d, the world economy would likely have been in very hot water.” - Matt Simmons, Author, “Twilight in the Desert: The coming Saudi Oil Crash and the World Economy”
And therein lies the rub. Supply is simply not going to be able to keep up with demand in this brave new world of Russian, Chinese, and Indian ascension. The U.S. has 2 % of the world’s oil and consumes nearly 25% of world’s annual production. One does not need a background in mathematics to visualize the intersection of the 2 sloping lines on that graph.
And while I am on this rant, I keep hearing the loud, vitriolic, and idiotic claims by certain special interest groups that the problem is those g-d-forsaken environmentalists! If only we could drill anywhere we wanted to we could get out of this mess! Buffalo bagels (and I’m a Republican)! These people are successfully manipulating the media and the benefit of this action will be assigned to a very few. We cannot drill our way to energy independence, no matter what those dim wits in the media report, and “strength by exhaustion” – Steven J. Strong, (I LOVE that quote, defining the silly concept of depleting the very last of our hydrocarbons as quickly as possible) would be an incredible national security blunder. Just imagine: we produce the last known domestic hydrocarbons - it would not take very long - and are now 100% reliant on imported oil, just like Japan. Students of history will remember how that worked out for their national security in WWII.
Last year we told our clients that the big story in business for 2006 would be energy - so far, so good. The oil depletion issue, “Peak Oil”, if you will, was considered the lunatic fringe in 2005. In 2006 it has been covered by Forbes, Fortune, Business Week, CNN, CNBC, and The Wall Street Journal, and nearly every daily on the globe. True, it has been derided by the likes of OPEC, the Oil Minister of Saudi Arabia, CERA, Big Oil, and other special interest groups. I would like to point out that these are the same entities that spent BIZZILIONS OF $$$$$$ over the past 2 decades trying to convince the public that global warming was not caused by CO2 emissions emanating from their product…
WHY WOULD YOU HEED THEM ON THIS ISSUE?
Why, indeed? Denial perhaps? The implications of this issue are simply mind-boggling. If these scientists and academics are correct (I believe they are correct, but I am not certain they are correct – there is a difference), it is likely that the new car you purchased in 2007 will outlive its fuel supply. If and when this dawns on John Q. Public… well, how do you figure that works out for the Auto and Housing industry, not to mention the owners of those far-flung suburban developments 50 miles from the nearest employment center? It is just too inconvenient to consider; denial is a lot easier. If, however, you are not into denial, there is a convention hosted by Boston University, October 26-27, 2006, on the subject of “Peak Oil”. Scientists, Physicists, and Mathematicians from Princeton, Cal-Tech, and Oxford University, among others, will be presenting. Guess how many members of the U.S. Congress will be there? One. The Honorable Roscoe Bartlett, R- Maryland. Guess what his background is? He’s a scientist (the only scientist in Congress; your average Congressman, if there is such a thing, is a lawyer by training. They don’t cover a lot of probability theory, exponential function, or logarithmic function in Law School). If you are interested in attending please call me.
Another symptom of denial is the constant stream of reports and articles about Ethanol, Tar Sands, Oil Shale, Methane Hydrates… While the Canadian Tar Sands are positive in their energy return (you get more energy out of the process than you put in) they are an environmental disaster in the making, and even the most optimistic projections do not place their total production above 4 to 5 mbd, by 2025. Oil Shale is an energy sink (you consume more energy in the process than is returned) and would be a bigger environmental problem than the Tar Sands. Ethanol is mildly energy positive (this is in dispute; after all, if ethanol was energy positive, why don’t ethanol plants run on ethanol?) but will never replace more than 5 to 10% of our current gasoline consumption – and our use is growing. Get the picture? You will undoubtedly be pitched this BS from politicians, the media, and investment gurus. Consider yourself warned.
OPEC? Watch what they do, and why – not what they say. OPEC is irrelevant at this point. What’s the point of a cartel if you are pumping as fast as you can? Only a fool thinks they will actually cut production voluntarily with prices anywhere over $40 per barrel… not to mention the fact that Saudi Arabia has ordered so many drilling rigs that the daily rental price has more than doubled worldwide! Now, why would you want to develop more production capacity if you are going to cut production? Somebody, please, give that CNBC reporter a V8!!!
Real Estate
The residential market in South Florida is at the beginning stages of a 5 – 10 year correction. That 6% year over year decline in price? It was 9% in REAL dollars (you gotta count inflation, too), and it will be 30 – 40% in REAL dollars over the next 10 years (for example, flat prices for 10 years with 3% inflation, compounded…). It is not as bad as Japan, 1992, but its pretty bad, and it is not just current “prices, supply, and demand”. Healthcare and construction have been the only legs on the stool, and construction is in contraction. Healthcare? It has been great, but I cannot see how things can improve in the coming years – this is as good as it gets. Government reimbursement drives the industry and growth from this quarter is coming to an end. Did I mention your potential employees cannot afford to live here on what you pay them? Commercial property investors might get some relief in the form of lower, long-term interest rates, but it’s a catch 22. To get the lower rates, the housing correction (crash?) would have to get worse. You might get some relief on debt service, but your vacancy rates are going higher still. And if rates were to go higher? I don’t even want to think about it. Let me remind you that the most beautifully designed building, at the finest location, brilliantly financed – without tenants is on the fast track to foreclosure. If you have any doubts about this, call me, and I will tell you the story of the Resolution Trust Corporation…
It is important to look at the trends. The Palm Beach County Public School systems, for the first time in 50 years, experienced a decline in students. That ain’t good (my spell checker hates that word). Can the commercial Real Estate market prosper in an absence of workers, higher insurance costs, higher energy costs, and a slowing economy? Sure, and I look good in tights…
Guess what was the best performing Real Estate asset class for past 12 months: Agricultural property. Yep. Not those shimmering condos in Miami overlooking the bay - it was a cornfield overlooking a feedlot full of manure – go figure. Now, who told you about this last year? The same guy who wrote in early 2005 that speculators in South Florida single-family homes had lost their marbles… but I won’t mention any names… but he rides a bicycle to work.
The Real Estate industry has a boom and bust cycle to it. It is as good as it gets during the boom. The bust is tough on your nerves. Where are we at this time in the cycle? Residential is a no-brainer. Office? Industrial? Retail? There is no substitute for knowing your market, but under no circumstance are the prices of properties that are being offered in our market cheap, leaving no room for error, and worse should the economy enter a recession.
Speaking of recession. One of the reason I write this newsletter is to market my perspicacious acumen by letting it all hang out in this forum and then letting prospects see how my prognostications worked out. I think a recession, or at the very least a significant economic slow down, is highly likely, if not unavoidable. There, I said it. Next year you can either call me an idiot, or a genius. But call me. I need the business.
The U.S. Dollar
The Dollar can’t make up its mind – but I can. If rates go lower the dollar gets killed. If rates go higher, the dollar has already gotten killed and the Fed is trying to save it and will kill everything else in doing so. A decline in the dollar’s value can be a good thing for real estate, Gold, Silver, and Oil. I say, “can be” in regard to real estate investors. The U.S. Dollar heading south is good for Oil and the precious metals in nearly all circumstances, but that is not necessarily so for Real Estate. For the rest of us, it is not so good. If you actually have assets, this is quite the conundrum.
The Financial Markets
The bond market tells me we are headed for a recession. The equity market tells me we are in the “Goldy Locks” zone – neither too hot nor too cold. They can’t both be right. If the economy is going to continue to expand at the clip expressed by the stock market’s recent gains, the bond market would be taking some serious heat and long rates would be headed much higher. After 20 years at this I firmly believe that the bond market participants do much better homework.
Let me bash those pretty, but intellectually stunted, talking heads one last time. It is constantly reported that the equity market is closing in on a record high… Donkey Dust! It has been 6 years since the market, as measured by the Dow Jones Industrial Average was in the same neighborhood as today. Didn’t these reporters do any research? In NOMINAL dollars we are closing in on the record; in inflation adjusted REAL dollars we have another 18 –20 % to go. If measured by the S & P 500 we have about 30% to go (give or take) and if measured by NASAQ, we have several generations to go. Central Banks exist to print money and therefore inflate prices and devalue their currency in an orderly fashion (the price of a postage stamp the year (1961) I was born was 3 cents - it is 39 cents today).
A little known fact is that we NEED inflation – just not too much. Ours is a fiat currency system (some hardcore students of economics with a political bent would debate this with me, but they’d be wrong), one that is not backed by gold but by the full faith and credit of the U.S. Government, the world’s largest debtor nation! Mild imbalances in the system can, for the most part, be cured by some judicious inflation. The point is this: Extremely unbalanced conditions take decades to recover from completely – just take a hard look at Japan. After you’re done looking at Japan, take another HARD look at the residential housing market. The only cure is to inflate, and China and India are making it harder and harder to do so. Why? Because, other then healthcare and construction we have had ZERO job growth in the U.S. since 2000. Hard to believe, but that’s the way it is. We have exported our manufacturing capacity and now our service jobs to India and China and have experienced little wage inflation at the time our Fed was lowering rates. Problem was, we did experience inflation in some sectors – housing and commodities, and we leveraged housing like crazy. Now, it is getting difficult to pay back the debt. In other times, a little inflation and - Voila! Problem solved. So, either we inflate to save housing, and kill the dollar, or housing sinks like a rock in a pond.
AND DON’T BELIEVE WHAT YOU READ IN THE PAPERS (OR SEE ON TV, OR HEAR FROM POLITICIANS…)
mentatt (at) yahoo (d0t) com
``There's no gentle way of saying this, we need to find oil fast.'' Han Wenke, 51, deputy director of the Beijing based Energy -Research Institute, an arm of China's planning ministry.
Energy
Crude Oil fell from a peak of $78+ to under $60 as of this morning’s trading. A sense of “well, we don’t have to worry about energy anymore” has descended upon mankind. As the famous game show host used to say: “EEGHGHGH!!! Wrong! Thanks for playing!”
“All I know is what I read in the newspapers” – Will Rogers
If all you know is what you read in the newspapers, you have been misinformed. For the past 20 years Crude Oil (and its derivative products) experienced a seasonal decline in price each Fall, averaging nearly 20%. This year’s decline was earlier and steeper than expected, but in hindsight, the steepness of the rise in price was warranted at that time considering the supply risks – and the steepness of the decline was warranted by the removal, even if temporary, of these risks. Further, several large hedge funds have experienced tremendous losses on heavily leveraged positions, and were forced to sell billions of dollars of commodities and securities positions in less than 2 weeks. Yet, the futures market has prices in the mid 70’s going out 5 years. In other words, the pros think controlling oil in the mid 70’s for the next 5 years is going to make them money – and that the price will be higher than the contract price (otherwise one would buy at the spot price).
After review of the supply numbers for the U.S. for January to August, 2005 vs the same period for 2006
(You can review U.S. domestic production and imports yourself, just go to: http://tonto.eia.doe.gov/dnav/pet/hist/wceimus2w.htm and http://tonto.eia.doe.gov/dnav/pet/hist/wcrfpus2w.htm)
total supply actually went down... The U.S. Energy Information Agency (“EIA”) reports that demand was 20.73 million barrels per day (“mbd”) in 2004, 20.66 mbd in 2005, and expects 20.66 mbd in 2006. Let me be the first to point out that NOT ALL OF THE NUMEBRS ADD UP PERFECTLY (the data sources are disparate, but it’s the trend we are looking for)… but if imports are down, and domestic production is down, and demand is flat… why are inventories “high”? Maybe they are not. Total supply is not the correct method of measurement – the number of day’s supply is the correct unit of measure.
“OECD inventories began the second quarter at the upper end of their past 5-year range for this time of year. However, when measured on the basis of how many days of demand the current supply could meet, OECD inventories were only in the middle of their observed 5-year range. By the end of 2007, EIA projects days of supply of OECD inventories to finish at the bottom of the 5-year range for that time of year, which is expected to make the market even tighter.” U.S. Department of Energy, Energy Information Agency, 9/12/06
Which begs the question: With the economy growing at better than 3.5 %, on average, every year, since 1999 (these are the years the reported comparisons of inventory encompass), why has there been no corresponding increase in storage facilities? If you expected growth in supply and consumption to continue unabated, wouldn’t you increase your capacity to hold inventory in proportion to maintain the same level of days of supply? Well, we have not, and it is either a strategic blunder - or brilliant planning. Why might it be brilliant? If future supplies do not increase, increasing storage capacity would raise unutilized production capacity.
At times like this it is important to “keep your eye on the ball”, the supply/demand equation. For better or worse, circumstances have not improved on this front and the energy dilemma is still with us, and not to put too sharp a point on it…
The production of Oil from the leading exporting nations has been flat for 2 years, yet their own domestic consumption has been rising. It then follows that their export capacity will fall. If this continues, importing nations (like the U.S.) will, by necessity, compete amongst themselves for the remaining oil.
“At a time when questions exist concerning the ability of the top 14 states to increase production, dramatic increases in domestic consumption of oil in these states is ominous. Morgan Stanley Hong-Kong based analyst Andy Xie in 2005 wrote that the only reason the price of oil was going up was because of growth of Chinese demand. This view is ridiculously incomplete. Oil consumption growth in the major exporting states – OPEC and Russia – without corresponding increases in production, will lead to declines in the amount of exportable oil, leading to increased competition for the remaining exportable barrels of oil.” - Randy Kirk
China, India… China, India… “Chindia”… there is no doubt that these gigantic populations are going to drive the majority of the increased energy demand picture over the next decade. Here is something the market (and those screwy media reporters) have not factored into the demand equation. The collapse of the Soviet Union and subsequent economic fallout depressed the consumption of the countries of the Former Soviet Union (“FSU”) by at least 4.3 mbd during the 1991 – 2005 period.
“In retrospect, the best way to review key fundamentals is to look carefully at changes in global supply and demand, and where they’ve come from. Between 1991 and 2005, global demand for oil grew by 16.6 million b/d. More astonishing is that non-FSU demand grew from 58.9 million b/d in 1991 to 79.8 million barrels a day in 2005. In other words, outside the unanticipated collapse of the Former Soviet Union, the rest of the world's oil demand grew by 20.9 million barrels a day in just 14 years (35%; 2.5% per year) vs. the projection by many oil pundits that oil demand growth was certainly slowing down.” (emphasis added)… in the meantime, non-OPEC oil supply, outside the FSU, grew in that same 14 years, but only by a modest 6.7 million b/d, from 31 to million b/d to 37.7 million b/d. That’s less than 0.5 mbd per year. Too many important regions peaked and went into decline. Had the FSU not been able to grow from 10.4 million to 11.6 million b/d and OPEC grown from 25.6 million to 34.2 million b/d, the world economy would likely have been in very hot water.” - Matt Simmons, Author, “Twilight in the Desert: The coming Saudi Oil Crash and the World Economy”
And therein lies the rub. Supply is simply not going to be able to keep up with demand in this brave new world of Russian, Chinese, and Indian ascension. The U.S. has 2 % of the world’s oil and consumes nearly 25% of world’s annual production. One does not need a background in mathematics to visualize the intersection of the 2 sloping lines on that graph.
And while I am on this rant, I keep hearing the loud, vitriolic, and idiotic claims by certain special interest groups that the problem is those g-d-forsaken environmentalists! If only we could drill anywhere we wanted to we could get out of this mess! Buffalo bagels (and I’m a Republican)! These people are successfully manipulating the media and the benefit of this action will be assigned to a very few. We cannot drill our way to energy independence, no matter what those dim wits in the media report, and “strength by exhaustion” – Steven J. Strong, (I LOVE that quote, defining the silly concept of depleting the very last of our hydrocarbons as quickly as possible) would be an incredible national security blunder. Just imagine: we produce the last known domestic hydrocarbons - it would not take very long - and are now 100% reliant on imported oil, just like Japan. Students of history will remember how that worked out for their national security in WWII.
Last year we told our clients that the big story in business for 2006 would be energy - so far, so good. The oil depletion issue, “Peak Oil”, if you will, was considered the lunatic fringe in 2005. In 2006 it has been covered by Forbes, Fortune, Business Week, CNN, CNBC, and The Wall Street Journal, and nearly every daily on the globe. True, it has been derided by the likes of OPEC, the Oil Minister of Saudi Arabia, CERA, Big Oil, and other special interest groups. I would like to point out that these are the same entities that spent BIZZILIONS OF $$$$$$ over the past 2 decades trying to convince the public that global warming was not caused by CO2 emissions emanating from their product…
WHY WOULD YOU HEED THEM ON THIS ISSUE?
Why, indeed? Denial perhaps? The implications of this issue are simply mind-boggling. If these scientists and academics are correct (I believe they are correct, but I am not certain they are correct – there is a difference), it is likely that the new car you purchased in 2007 will outlive its fuel supply. If and when this dawns on John Q. Public… well, how do you figure that works out for the Auto and Housing industry, not to mention the owners of those far-flung suburban developments 50 miles from the nearest employment center? It is just too inconvenient to consider; denial is a lot easier. If, however, you are not into denial, there is a convention hosted by Boston University, October 26-27, 2006, on the subject of “Peak Oil”. Scientists, Physicists, and Mathematicians from Princeton, Cal-Tech, and Oxford University, among others, will be presenting. Guess how many members of the U.S. Congress will be there? One. The Honorable Roscoe Bartlett, R- Maryland. Guess what his background is? He’s a scientist (the only scientist in Congress; your average Congressman, if there is such a thing, is a lawyer by training. They don’t cover a lot of probability theory, exponential function, or logarithmic function in Law School). If you are interested in attending please call me.
Another symptom of denial is the constant stream of reports and articles about Ethanol, Tar Sands, Oil Shale, Methane Hydrates… While the Canadian Tar Sands are positive in their energy return (you get more energy out of the process than you put in) they are an environmental disaster in the making, and even the most optimistic projections do not place their total production above 4 to 5 mbd, by 2025. Oil Shale is an energy sink (you consume more energy in the process than is returned) and would be a bigger environmental problem than the Tar Sands. Ethanol is mildly energy positive (this is in dispute; after all, if ethanol was energy positive, why don’t ethanol plants run on ethanol?) but will never replace more than 5 to 10% of our current gasoline consumption – and our use is growing. Get the picture? You will undoubtedly be pitched this BS from politicians, the media, and investment gurus. Consider yourself warned.
OPEC? Watch what they do, and why – not what they say. OPEC is irrelevant at this point. What’s the point of a cartel if you are pumping as fast as you can? Only a fool thinks they will actually cut production voluntarily with prices anywhere over $40 per barrel… not to mention the fact that Saudi Arabia has ordered so many drilling rigs that the daily rental price has more than doubled worldwide! Now, why would you want to develop more production capacity if you are going to cut production? Somebody, please, give that CNBC reporter a V8!!!
Real Estate
The residential market in South Florida is at the beginning stages of a 5 – 10 year correction. That 6% year over year decline in price? It was 9% in REAL dollars (you gotta count inflation, too), and it will be 30 – 40% in REAL dollars over the next 10 years (for example, flat prices for 10 years with 3% inflation, compounded…). It is not as bad as Japan, 1992, but its pretty bad, and it is not just current “prices, supply, and demand”. Healthcare and construction have been the only legs on the stool, and construction is in contraction. Healthcare? It has been great, but I cannot see how things can improve in the coming years – this is as good as it gets. Government reimbursement drives the industry and growth from this quarter is coming to an end. Did I mention your potential employees cannot afford to live here on what you pay them? Commercial property investors might get some relief in the form of lower, long-term interest rates, but it’s a catch 22. To get the lower rates, the housing correction (crash?) would have to get worse. You might get some relief on debt service, but your vacancy rates are going higher still. And if rates were to go higher? I don’t even want to think about it. Let me remind you that the most beautifully designed building, at the finest location, brilliantly financed – without tenants is on the fast track to foreclosure. If you have any doubts about this, call me, and I will tell you the story of the Resolution Trust Corporation…
It is important to look at the trends. The Palm Beach County Public School systems, for the first time in 50 years, experienced a decline in students. That ain’t good (my spell checker hates that word). Can the commercial Real Estate market prosper in an absence of workers, higher insurance costs, higher energy costs, and a slowing economy? Sure, and I look good in tights…
Guess what was the best performing Real Estate asset class for past 12 months: Agricultural property. Yep. Not those shimmering condos in Miami overlooking the bay - it was a cornfield overlooking a feedlot full of manure – go figure. Now, who told you about this last year? The same guy who wrote in early 2005 that speculators in South Florida single-family homes had lost their marbles… but I won’t mention any names… but he rides a bicycle to work.
The Real Estate industry has a boom and bust cycle to it. It is as good as it gets during the boom. The bust is tough on your nerves. Where are we at this time in the cycle? Residential is a no-brainer. Office? Industrial? Retail? There is no substitute for knowing your market, but under no circumstance are the prices of properties that are being offered in our market cheap, leaving no room for error, and worse should the economy enter a recession.
Speaking of recession. One of the reason I write this newsletter is to market my perspicacious acumen by letting it all hang out in this forum and then letting prospects see how my prognostications worked out. I think a recession, or at the very least a significant economic slow down, is highly likely, if not unavoidable. There, I said it. Next year you can either call me an idiot, or a genius. But call me. I need the business.
The U.S. Dollar
The Dollar can’t make up its mind – but I can. If rates go lower the dollar gets killed. If rates go higher, the dollar has already gotten killed and the Fed is trying to save it and will kill everything else in doing so. A decline in the dollar’s value can be a good thing for real estate, Gold, Silver, and Oil. I say, “can be” in regard to real estate investors. The U.S. Dollar heading south is good for Oil and the precious metals in nearly all circumstances, but that is not necessarily so for Real Estate. For the rest of us, it is not so good. If you actually have assets, this is quite the conundrum.
The Financial Markets
The bond market tells me we are headed for a recession. The equity market tells me we are in the “Goldy Locks” zone – neither too hot nor too cold. They can’t both be right. If the economy is going to continue to expand at the clip expressed by the stock market’s recent gains, the bond market would be taking some serious heat and long rates would be headed much higher. After 20 years at this I firmly believe that the bond market participants do much better homework.
Let me bash those pretty, but intellectually stunted, talking heads one last time. It is constantly reported that the equity market is closing in on a record high… Donkey Dust! It has been 6 years since the market, as measured by the Dow Jones Industrial Average was in the same neighborhood as today. Didn’t these reporters do any research? In NOMINAL dollars we are closing in on the record; in inflation adjusted REAL dollars we have another 18 –20 % to go. If measured by the S & P 500 we have about 30% to go (give or take) and if measured by NASAQ, we have several generations to go. Central Banks exist to print money and therefore inflate prices and devalue their currency in an orderly fashion (the price of a postage stamp the year (1961) I was born was 3 cents - it is 39 cents today).
A little known fact is that we NEED inflation – just not too much. Ours is a fiat currency system (some hardcore students of economics with a political bent would debate this with me, but they’d be wrong), one that is not backed by gold but by the full faith and credit of the U.S. Government, the world’s largest debtor nation! Mild imbalances in the system can, for the most part, be cured by some judicious inflation. The point is this: Extremely unbalanced conditions take decades to recover from completely – just take a hard look at Japan. After you’re done looking at Japan, take another HARD look at the residential housing market. The only cure is to inflate, and China and India are making it harder and harder to do so. Why? Because, other then healthcare and construction we have had ZERO job growth in the U.S. since 2000. Hard to believe, but that’s the way it is. We have exported our manufacturing capacity and now our service jobs to India and China and have experienced little wage inflation at the time our Fed was lowering rates. Problem was, we did experience inflation in some sectors – housing and commodities, and we leveraged housing like crazy. Now, it is getting difficult to pay back the debt. In other times, a little inflation and - Voila! Problem solved. So, either we inflate to save housing, and kill the dollar, or housing sinks like a rock in a pond.
AND DON’T BELIEVE WHAT YOU READ IN THE PAPERS (OR SEE ON TV, OR HEAR FROM POLITICIANS…)
mentatt (at) yahoo (d0t) com
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