The International Energy Agency (IEA) warns that the recent oil price collapse has triggered a significant decrease in exploration and and new field development. In essence, market players are using market information (price decline) to signal that there is already enough supply capacity to satisfy demand for the coming decade or so.Well, the IEA seems to think that recent market information has provided the exact opposite feedback needed to ensure the world’s future energy needs are met. How does this impact you and your portfolio?
There is good reason to suspect a peak oil scenario in the relatively near future. The majority of the world’s oil comes a few old fields whose output is already declining. In Twilight in the Desert, Matthew Simmons shows how the world’s largest oil producer, Saudi Arabia, is likely obscuring its reserve data and hiding the fact that its biggest fields are experiencing peak production.
Global supply and demand estimates by the IEA paint a gloomy scenario. Demand is expected to rise 45 million b/d, going from its present level around 85 million b/d to 106 million b/d by 2030. But the scary thing is that production from the world’s major fields is actually decreasing at an annual rate of 6.7 per cent!
So where do we stand? The bulk of the world’s oil comes from several key mega-fields that are declining at a rate of AT LEAST 6.7 per cent per year (this assumes Saudi Arabia is telling the truth), and required minimum capital investments needed to appropriately scale up production are not being met. My bet is that this will culminate in a future crisis for several reasons:
1. Required investment schedules needed to increase production are not being met: The IEA estimates that in 2007, when oil prices were rising, the world needed to invest $450bn to develop capacity, whereas only $390bn made it. With collapsing prices you can bet this figure will decrease substantially. 2. Increased international government control of the oil business is eroding efficiency. Look at Venezuela’s production declines as an example. 3. Political risks are decreasing investment decisions domestically and abroad-think “wind-fall profits” taxes.
Prices are down in the short term because of a slumping economic outlook. At some point international commerce will recover and we will realize that we have a dire oil problem. When this happens prices will skyrocket. If you lack the risk tolerance to make blatant long bets on price appreciation, at least do yourself a favor and hedge this risk out of your portfolio.
