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Page added on January 31, 2009

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Byron King: Why Oil is Too Cheap

…The Hubbert geology-based model of scarcity morphed in the past couple of years. The more recent concern has become aboveground issues. There are things like politics (Venezuela, for example); war (Iraq); insurrection (Nigeria); access to sites (Russia); other macro-investment trends (the rise of national oil companies — NOCs) and broad issues, like limits to industrial capacity.


Houston’s most famous investment banker Matt Simmons is one of the great advocates of this aboveground focus, particularly on the issues of industrial capacity. To be fair, Matt discuses the Hubbert-like geological constraints. But Matt devotes much of his argument — correctly — to nongeological issues in the oil patch. For example, Matt discusses how there is not enough oil field equipment, from rigs to high-strength subsea valves. Or there are too few trained personnel, or not enough well-drilling, or there’s just plain systemic corrosion (“rust”) that will limit future oil output.


And Simmons is entirely right about his points. It’s always an informative use of time — and a true pleasure — to watch Matt give a talk. Over the long term and at the rate things are going, Matt is exactly on target. There will not be enough oil to meet eventual world demand, because of underinvestment in drilling, inadequate personnel, insufficient industrial capacity and other inefficiencies in the overall industrial process.


But right now — for the past few weeks, say — the “scarcity” issue has morphed again. The immediate issue is that aggregate oil demand is declining. This is because of the worldwide economic recession. So oil prices are falling. Certainly, for the short term — for the next year or so — there is just “too much” crude oil floating around, figuratively as well as literally. Russia’s Vladimir Putin does not think that things will turn around until mid-2010, and he may well be right.


World oil stockpiles are actually growing. Recently, I’ve seen stories about large operators like BP and Shell leasing tankers just to store oil at sea, evidently hoping for higher prices in the future. This has to scare the bejesus out of the nice people at OPEC. Really, how can you run a decent oil cartel when there are large stockpiles of your main product out there just for the asking? It’s bad for business.


HoweStreet.com



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