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“Peak Oil” Is Back on the Radar

by | published September 10th, 2010

In July, a German military think tank became the latest group to issue a warning about the approach of “Peak Oil.” This is only the most recent indication of support for the position on oil supplies and likely market pricing scenarios I have been talking about.

For you, this rising evidence on the demand/supply relationship provides another read on where to direct your energy investment approach.

The report was leaked on the Internet last week and subsequently appeared in the German newspaper Der Speigel. (The full version is available only in German, but there is an adequate summary in English.) It warns of the potential for a dire global economic crisis within 15 years of hitting “peak oil” – the point in time at which we have used more than 50% of the crude available worldwide. And the report states there is some probability peak oil will occur this year.

This is the fourth report released in the past year warning of a coming lack of oil supply, including one other military “think piece,” this one by the U.S. Army.

The initial reaction to the report: concern that nationalistic responses will greet oncoming shortages with radical global military and political solutions.

In the leaked approach, the Futures Study Group at the Center for German Army Transformation warns that there is a genuine risk of significant regional shortages, combined with acute market collapses, and the real possibility of increasing political leverage for those who can successfully export oil.

An underpinning of these concerns involves continuing European reliance on Russian oil and gas. In the center’s judgment, that situation could increase the political power of Moscow in its dealings with the European Union.

Yet in each of the “peak oil” studies that has emerged, including the most recent one by the German military, there is a recurring global view that is far more troubling…

The Impact Goes Beyond Simple Supply Concern

As demand moves back into the market following the international financial crunch, the supply side will be straining to meet it.

Nobody is seriously suggesting that the problem will explode upon the scene in the next few months. Given the collapse in oil prices from September 2008 through the second quarter of 2009, concerns over supply constriction abated.

But these concerns are now coming back, as the demand side begins to show signs of accelerating.

The international financial crisis has added a few years onto the prognosis but hardly changed the dynamics. When in 2008 both the International Energy Agency and the U.S. National Petroleum Council issued warnings about an oncoming supply problem, the suggested date was 2016. Following the global meltdown, the onset may now have been delayed to 2018.

But the impact will be felt much sooner…

Normally, oil traders set the price for crude at the cost of the next available barrel. In an environment where supply is becoming a concern, the peg becomes the cost of the most expensive next available barrel. And, well before that kicks in, governments will be stepping in to address security matters, especially in those countries that depend upon imports.

That certainly explains the American and German militaries’ interest in the subject.

The way in which the current upstream segment of the oil chain operates, where the production takes place, will intensify the impact of this.

One of these considerations is the simple element of time. Between September 2008 and the end of the second quarter of 2009 – in other words, the period in which oil prices tanked – each month that passed produced a two-and-a-half-month delay in new production projects. To put it simply: By the time we had entered 2009, not a single new project anywhere in the world was profitable.

The nine months it took for oil market pricing to stabilize cost us almost two years in forward drilling. With an average green field project (that is, a new production location) taking five to seven years to come on line, that means we are already into the period during which supply becomes a concern. Well before the spot shortages emerge in various regions, prices will be rising in anticipation.

Another primary worry involves who will benefit from the concern over supply not meeting returning demand.

The leaked German report states the obvious – those who are able to provide product for the market will profit. Yet it is now beyond merely concluding that the Middle East (where 69% of current known reserves are located) will benefit. Both the German and U.S. military reports label this a primary strategic concern. That means well before shortages show up, governments will have taken measures to offset them.

That has all the hallmarks of an unstable and dangerous situation.

Two Direct Results

First, dependence on oil-based infrastructures – namely pipelines, refineries, harbors, and ocean traffic routes – will increase risk. Damaging these infrastructures through sabotage and war would become an attractive option for violence-prone groups or countries. The same conclusion emerges for electricity and natural gas-related infrastructure – they all might require higher levels of protection.

Second, and this is the important point for our purposes, the leaked report reflects a similar conclusion found in previous studies. It advocates more regional energy self-sufficiency.

The combination of these two conclusions – one referring to rising instability and other pointing toward a more locally-based solution – supports the way in which our energy approach has been unfolding in Oil & Energy Investor.

Our approach comprises three elements: profiting from the volatility that results in higher prices; putting greater reliance on unconventional gas and oil production in places like North America; and identifying early the companies, technologies, and approaches that will lead the way into genuinely alternative energy sources.

Way before the supply crisis hits, developed markets will be moving in new directions. I am already positioning you to profit big-time from these moves, even before they become apparent to others.

Of course, it is always nice to know the German army agrees.

Kent

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