Peak Oil: A Reality or a Lie?

After the epic crash last year, the price of oil is stabilizing and it could rise exponentially over the following years. Over the past year, global consumption has stayed weak and may stay that way for awhile.

However once the economy recovers, crude oil should resume its secular bull-market trend and many pundits think it might shock some folks as to how high prices may go.

This bodes well for companies like Apache Energy (NYSE:APA), ExxonMobil (NYSE:XOM) and one of my favorites among the integrated oil companies, Chevron (NYSE:CVX).

I'm hoping to pick up shares of APA and CVX after the next "Black Swan Event" that may push their share prices down to more attractive levels. For those who want more diversity one might consider an ETF like Energy Select Sector SPDR (NYSE:XLE).

My friend and colleague Puru Saxena, writing from Hong Kong, shared the following with me and gave me his permission to share it with you. It's a longer piece than I usually post but it is a unique perspective on the topic of "Peak Oil".

Draw your own conclusions, but consider it with an open-minded approach because if it is mostly accurate it could be a monumental influence on our investment results in the years to come. The following is pretty much how I received it:

Despite the ‘demand destruction’ hype, it is interesting to note that during this severe global recession, worldwide oil usage has dropped by a minuscule 2.7%. So, what will happen when the world comes out of this recession? Who will rise up to the challenge and meet our insatiable thirst for energy? These are critical questions not many are willing to ask.

According to the US Department of Energy, liquid fuel demand in the developed nations peaked in August 2005 at 41.89 million barrels per day. Since then, it has plunged by 3.6 million barrels per day to 38.27 million barrels per day. However, you may want to note that despite these tough economic conditions, consumption has been extremely resilient in the emerging world. For instance, demand in the developing countries peaked in October 2008 at 46.33 million barrels per day and it is down by only 0.36 million barrels per day! I don’t know about you but I am amazed that the worst global recession in decades has barely managed to shrink energy demand in the developing world. Whilst this is wonderful news for the energy investor, it is a terrible sign for society.

At present, our world is using up roughly 84 million barrels of liquid fuels per day and for the moment at least, there is sufficient supply to meet demand. However, when economic activity picks up, it won’t take much for demand to zip right past supply. Remember, it is much easier to increase usage, but it takes a long time to ramp up production. So, unless this is a permanent global recession (which I doubt), it is inevitable that the price of oil will go up significantly over the medium to long-term.

On the supply side of the equation, let me be clear. If I was asked to pick the biggest threat to a sustainable economic recovery, ‘Peak Oil’ would top that list. Remember, ‘Peak Oil’ doesn’t mean that we are running out of oil reserves, crude will be around for decades. However, ‘Peak Oil’ does imply that we are dangerously close to peak global oil production. ‘Peak Oil’ also means that rather than experiencing a burst in oil supplies as many expect, from here onwards, we will witness sharp declines in global flow rates. In a nutshell, the era of cheap energy is over and the price of crude oil will rocket higher over the coming decade.

On the supply side of the equation, let me be clear. If I was asked to pick the biggest threat to a sustainable economic recovery, ‘Peak Oil’ would top that list. Remember, ‘Peak Oil’ doesn’t mean that we are running out of oil reserves, crude will be around for decades. However, ‘Peak Oil’ does imply that we are dangerously close to peak global oil production. ‘Peak Oil’ also means that rather than experiencing a burst in oil supplies as many expect, from here onwards, we will witness sharp declines in global flow rates. In a nutshell, the era of cheap energy is over and the price of crude oil will rocket higher over the coming decade.

Now, many skeptics will argue that if ‘Peak Oil’ was real, the price of oil wouldn’t have dropped to roughly US$30 per barrel in last autumn’s stunning crash. Valid point; but let us not forget that the spectacular plunge occurred at a time when global economic activity virtually came to a standstill. Let us also keep in mind that last autumn’s crash in asset prices was caused by a total freeze in credit and the associated asset liquidation. Whilst I agree that the final action in crude oil’s parabolic blow-off last July smacked of speculation, I can assure you that speculation alone couldn’t have created a multi-year boom whereby the price of crude oil went up by almost 1500%! As you can see from Figure 1 above, supply clearly fell short of demand between 2005 and 2008 and this is why we had a magnificent bull-market in crude oil.

Make no mistake, global demand for liquid fuels will rise again and if my homework is correct, supply won’t be able to keep up. If you ignore the noise and review hard data, you will observe that the vast majority of the world’s most prolific oil provinces are now past peak production and in a state of permanent depletion. According to the BP Statistical Review of World Energy, out of the 54 oil producing nations and regions in the world, only 14 are still increasing production. Alarmingly, 30 oil producing nations and regions are definitely past their peak output and the remaining 10 appear to have modestly declining production rates. Put another way, when weighted by production, ‘Peak Oil’ is already a grim reality in 61% of the oil producing world!

Still not convinced about ‘Peak Oil’? Then review Figure 2 which charts the expected combined flow rates for crude oil, lease condensates and Canadian Oil Sands. As you can see from the grey shaded area, production is about to decline by roughly 5 million barrels per day by 2012.

Has crude oil production peaked?

Source: The Oil Drum

Ironically, the above graph also plots the optimistic (almost laughable) forecast made by the International Energy Agency (IEA) in its “World Energy Outlook 2008”. Interestingly, in last year’s “World Energy Outlook”, the IEA stated that in order to fulfill its optimistic projections, the world had to install 64 million barrels per day of new supply by 2030 or the equivalent of six times the Saudi Arabian output! Furthermore, the IEA declared that the energy industry had to invest hundreds of billions of dollars every year to achieve this favourable outcome.

Now, I can understand that the IEA is a government funded agency so it has to paint a rosy picture, but it is ominous that the energy watchdog failed to mention where this surplus oil would come from!

Well, I guess you get the idea. Global crude oil production has probably peaked, new discoveries have dried up and there is a shortage of capital for investment purposes. Apart from these factors, if you believe the energy optimists, all is well in the energy industry and the price of oil is about to drop to zero!

After years of extensive research, I have no doubt in my mind that unless global demand stays weak forever, we will see supply shortages in the not too distant future. And before that occurs, the price of crude oil will stage an explosive rally. Accordingly, I suggest that all my readers allocate a large proportion of their investment portfolio to upstream energy companies and to businesses in the energy services sector.

Finally, in the energy complex, the price of natural gas is still scraping along its recent crash low and this is a fantastic long-term investment opportunity. As we approach winter in the Northern Hemisphere and heating demand picks up, we are likely to see a big rally in the price of natural gas. So, investors may want to allocate capital to this unbelievably inexpensive commodity.

I don't endorse him or his views, but I find him thought-provoking. A great exercise would be for each of us to test his thesis and come to our own conclusions.

DISCLOSURE: I don't own any of the stocks or funds mentioned in this article.

Comments

[Prudent Man...:]

Astonishing: Wall Street and Washington lies! Take away the lies and they both would collapse. When collectivist economic effete at Brookings and Berkeley warn of too much debt it is already too late.

Agree that the "Black Swan" is ready to swoon as there are innumerable catalysts that are there and it is just that the momentum crowd don't want to believe it. Denial is a deadly sin.

Look for more fudged economic numbers until the bureaucrats and politicians can no longer paint over reality. Believe them at your own and your families risk.

Aug 27 10:00 AM

[Steve in TN:]

"Accordingly, I suggest that all my readers allocate a large proportion of their investment portfolio to upstream energy companies and to businesses in the energy services sector."

All well and good, however if we get another dip down in the economy and/or markets an even better buying opportunity to buy energy service companies will present itself.

Aug 27 10:37 AM

[Uncle Pie:]

Oil production in the USA peaked in 1970, just as Mr. Hubbert predicted it would back in the 1950s. Oil production in Canada is not expected to peak until sometime around 2035, so why invest in US oil companies when you can invest in Canadian ones? Look at Suncor SU, Encana ECA and Canadian Natural Resources CNQ among the larger companies, and there many smaller ones to check out. And don't forget to look at Brazil's Petrobras PBR, Norway's Statoil STO, and Australia's Woodside Petroleum WOPEY when you are considering energy investments. The author owns shares in all of the above, and does not own any US-domiciled oil companies whatsoever.

Aug 27 10:51 AM

[The Economi...:]

We're now cracking the earth under Texas to get out the oil and destabilizing the ground so much it's causing little earthquakes. Sounds a little desperate to me.

Actually, why are we even having this argument? The entire world knows there is a finite amount. Are there not better places to put this drool?

Aug 27 10:59 AM

[The Economi...:]

Mark, you really need to lose the mustache and menancing yet slightly puzzled stare in your picture.

Aug 27 11:01 AM

[Mayascribe:]

Production has peaked. But there are billions of barrels in the oil sands in Canada, and the US in Montana and Utah. Canada has the second largest reserve of oil behind only Saudia Arabia.

The case for peak oil should be "sun-spotted."

Aug 27 11:05 AM

[Ferdinand E...:]

Marc, have you ever heard me tell people that I am the leading academic energy economist in the world. I do it all the time, and when there is nobody around I tell myself. Anyway, today I was sitting in marvelous Stockholm, whatching the animals go by, and also putting together the lecture on peak oil that I plan to give soon, in which I crush doubters.

Well, this great article of yours will be referred to, although in the first chapter of my new book (or the chapter on oil) I'm afraid that I will use the word brilliant to describe it. Your article is what we need to give the fools their comeuppance.

Is it really so, is it really and truly so, that people are so dumb that they can look at the frequency plots (of outputs) for hundreds of fields, and a dozen regions (like the US, UK and Norwegian North Sea, Russia) and come to the conclusion that there will not be a global peak. Of course, who gives a damn. When the oil price starts to escalate again nobody is going to ask about peak oil.

Aug 27 11:25 AM

[FDNY RET:]

Anytime you place a question mark after the words "Peak oil"-The article is aimed at fools, who don't realize, there is NO question.

Thinking souls will shun it--Yes I admit I peeked-(Not peaked)--anyway just in case, there was a case, for a kernel of doubt--there wasn't!.

Aug 27 12:13 PM

[Perry1961:]

Higher oil prices will just make EV's and PHEV's more attractive. Ditto for biofuels. Transportation will be largely electric a decade from now. And,deep geothermal will provide most electricity in two decades. Oil companies will continue to dominate in energy, even when oil is no longer needed. They're best able to compete with deep geothermal. Chevron is the largest geothermal operator in the world.

Aug 27 12:15 PM

[jerrydd:]

Puru is correct, the numbers don't lie but the IEA really does. Facts are we are finding 1bbl for every 4 we use in the world. We have been living off old oil fields that are falling fast with no where near enough to replace them.

Unless the oil sands can make enough energy to run themselves instead of burning so much NG they will be just a small part.

Facts are except for the next few months when oil should drop some, as soon as the worlds, US economy recovers, well be right back to July08 with $150/bbl oil and higher until it drives us back into recession.

Oil will go up about $1/gal/yr until we get off imported oil. But in about 10 yrs oil will drop as enough other alt energy comes online.

The solutions are EV's, PHEV's, NG for semi's, trains, F-T fuels from yard, forest, crop, garbage biomass wastes and probably coal, NG too. Facts are their are good solutions at price just above what we pay now but it will take 10 yrs to deploy them.

There is plenty of energy out there, we just lack the equipment to catch, make it.

The problem is not technical but but political. If we stopped giving such huge corporate welfare to big oil, coal, tax them for there full, real cost the rest would solve itself in a real free market.

The beauty of a oil tax paying the costs of oil like the Persian gulf military, oil wars, etc, about $1.50/gal is it would cause the price of crude to drop making Iran, Russia, oil dictators and terrorists pay most of it. With the income we could get a tax break and help switching to alt energy.

This would save $1T/yr in imported oil will cost in 2 yrs if we don't, $250B/yr in military, oil war costs, enough to pay the national debt in 10 yrs plus create millions of jobs and a great economy.

If we don't, will be broke and make our enemies rich. Your choice. Call your congressperson today and demand a oil tax with a tax cut.

Personally I build custom EV's so I'll make out like a bandit either way as will those owning RE production equipment selling the energy.

Aug 27 01:04 PM

[Al Fin:]

We have peak demand, certainly. The explosion of demand for oil from China, India, and the rest of the emerging world has no doubt placed a strain on an unprepared oil infrastructure -- dominated by corrupt national oil companies in Russia, Iran, Venezuela, Saudi Arabia etc. Those jokers are letting their infrastructure rust away before their eyes. Peak incompetence of oil dictators? Sure.

If prices ever do shoot up -- like you keep saying they will -- to $300 a barrel and higher, you can bet that conservation and substitution will explode. As will new exploration and new extraction and refinery technologies. Bring on the higher oil prices, we need oil to cost more so that substitutes can come on line and kick oil out of the marketplace!

Yours is a static view of the energy world. A more dynamic view would admit its own ignorance of future technologies and discoveries, and the dynamic effects of higher prices on the overall economic situation.

The only true peak oil is "political peak oil" like we are getting from Obama, Pelosi, Salazar, and the rest of the clowns. They are choking the US of its energy supplies, one by one. That's not peak oil the way you predict it, though. It's ideological government out the astropipes.

Aug 27 02:14 PM

[tomburge:]

It amazes me the number of responses that are either wishful or emotional. Any thoughtful analysis of available public data supports the concept of peak oil.
The U.S. could mitigate the effect of the coming price increases through a massive commitment to developing a natural gas infrastructure. Unfortunately the necessary. political will does not and will not exist.

Aug 27 04:17 PM

[buddhabill:]

Would the phrase 'Peak Cheap, Readily Available and Politically-Accessible Oil'** be more palatable? Because that's what is indisputable: mega fields are in decline and replacements are no being found, while demand in India and China (and Indonesia) is just starting to build.

Re: The consequences of $300 bbl oil, clearly there will be changes in usage patterns and it will make alternatives more financially viable.

However the fact remains that both the existing demand infrastructure (internal combustion engines, petro-based fertilizers, etc) and distribution infrastructure (gas stations, pipelines, refineries, tanker transports, etc) are ONLY geared toward petroleum, and it is the lack of alternative infrastructures that will be the bottleneck in replacing oil. It's a Catch-22, where the investment in alternatives will happen ONLY AFTER a sustained oil crisis. And it will take years and trillions to implement WHILE the oil crunch is still going on. Ouch.


**Prof. Banks: You have my permission to use this phrase in your next book.

On Aug 27 02:14 PM Al Fin wrote:

> We have peak demand, certainly. The explosion of demand for oil from
> China, India, and the rest of the emerging world has no doubt placed
> a strain on an unprepared oil infrastructure -- dominated by corrupt
> national oil companies in Russia, Iran, Venezuela, Saudi Arabia etc.
> Those jokers are letting their infrastructure rust away before their
> eyes. Peak incompetence of oil dictators? Sure.
>
> If prices ever do shoot up -- like you keep saying they will -- to
> $300 a barrel and higher, you can bet that conservation and substitution
> will explode. As will new exploration and new extraction and refinery
> technologies. Bring on the higher oil prices, we need oil to cost
> more so that substitutes can come on line and kick oil out of the
> marketplace!
>
> Yours is a static view of the energy world. A more dynamic view would
> admit its own ignorance of future technologies and discoveries, and
> the dynamic effects of higher prices on the overall economic situation.
>
>
> The only true peak oil is "political peak oil" like we are getting
> from Obama, Pelosi, Salazar, and the rest of the clowns. They are
> choking the US of its energy supplies, one by one. That's not peak
> oil the way you predict it, though. It's ideological government out
> the astropipes.

Aug 27 05:37 PM

[perceptions...:]

"After years of extensive research, I have no doubt in my mind that unless global demand stays weak forever, we will see supply shortages in the not too distant future. And before that occurs, the price of crude oil will stage an explosive rally."

I agree, there is little doubt that Oil has indeed Peaked!

And, I also agree that production will now fall away and we will see shortages, in the no too distant future.

It should also be noted, that the EROEI (Energy Return On Energy Invested), which was up around 100/1, is said to have slipped to 11/1 in 2000 and is continuing to head lower, thus lessening the profit motive to increase Supply.

However, with all this agreement, I am not that confident of the long term nature of the expected Price increases?

Why? Because as the Price skyrockets, on each ocassion, the economy will weaken, Demand will fall and the Price will also fall.

I am more inclined to the view, that as each of these "Black Swan Events" take place and there will be a few, the economy will ratchet lower, whilst the Oil Price slowly ratchets higher.

Aug 28 03:40 AM

[ArtfulDodger:]

Hey Prudent, love the pup pic! What's the name?


On Aug 27 10:00 AM Prudent Man CFA wrote:

> Astonishing: Wall Street and Washington lies!

Aug 28 09:19 AM

[Road Runner:]

We have definitely reached peak cheap oil, but we have not reached peak oil. Let the price hover above $100 for a few years and see what happens.

There will be new supply coming on line from many places including Canada oil sands, offshore west Africa, and Brazil. There will be strong demand destruction in the US (we are very inefficient users of oil). And, there will be some demand destruction in places like Italy and India that use oil to generate electricity because LNG ("liquefied natural gas" for newbies to energy) will become more of a world product. That trend is starting now with several LNG terminals being built around the world. LNG right now is 25% the price of oil in equivalent energy terms.

Aug 28 09:55 AM

[a. palmer jr.:]

Part of the solution is living near where you work, play, shop, school, etc. Then walk or bicycle or take an EV to where you want. Except for the EV, that's how it was done when I was a child. Back in the fifties most of the people around where I lived didn't own cars. We didn't have a car until the late fifties and gas was real cheap then. I suppose it wouldn't kill us to go back 50 years or so; it was actually more enjoyable then that it is now.

Aug 28 09:56 AM

[Marc Courtenay:]

Thank you, and I'm looking forward to reading your book when it is available.


On Aug 27 11:25 AM Ferdinand E. Banks wrote:

> Marc, have you ever heard me tell people that I am the leading academic
> energy economist in the world. I do it all the time, and when there
> is nobody around I tell myself. Anyway, today I was sitting in marvelous
> Stockholm, whatching the animals go by, and also putting together
> the lecture on peak oil that I plan to give soon, in which I crush
> doubters.
>
> Well, this great article of yours will be referred to, although in
> the first chapter of my new book (or the chapter on oil) I'm afraid
> that I will use the word brilliant to describe it. Your article is
> what we need to give the fools their comeuppance.
>
> Is it really so, is it really and truly so, that people are so dumb
> that they can look at the frequency plots (of outputs) for hundreds
> of fields, and a dozen regions (like the US, UK and Norwegian North
> Sea, Russia) and come to the conclusion that there will not be a
> global peak. Of course, who gives a damn. When the oil price starts
> to escalate again nobody is going to ask about peak oil.

Aug 28 02:20 PM

[Turnipseed:]

EROEI is a major factor, not because of economics, but because energy consumed for production is starting to approach energy produced. Recall the corn ethanol fiasco. This will eventually limit tar sands and may keep oil shales from ever becoming feasible.

On Aug 28 03:40 AM perceptions_now wrote:


> It should also be noted, that the EROEI (Energy Return On Energy
> Invested), which was up around 100/1, is said to have slipped to
> 11/1 in 2000 and is continuing to head lower, thus lessening the
> profit motive to increase Supply.

Aug 28 02:43 PM

[Old Trader:]

As mentioned by more than one commentor, its more of a case of "peak, cheap, politically accessible oil" that's the problem, rather than some particular finite number of reserves (although that probably exists, as well, at least in theory.)

The figure I keep reading/hearing for the oil sands is $70/bbl as the minimum price for oil for profitable production, and we're currently just a smidge above that.

Another problem is that some current exporters will soon become net importers (to wit, Mexico is due make that change in status within the next couple of years.)

Aug 28 08:55 PM

[john boy:]

jerry
in a perfect world we could maybe cunt on all the usual suspect to make up for our oil deficiency that is just around the corner. the only flaw in your plan is that there is limited amount of capital that will be available. We are going to have more big increases in demand then severe recessions after that because of the high cost of all commodities not just oil. so there wont be enough financing to bring this stuff on board. The only thing i see that can help alleviate the strain is the use of natural gas until we slowly buil up the use of the other vehicles and that may limit the spikes in energy and limit the periods between economic crashes. And lets not forget mr infalation that will limit the ammount of borrowing to fund all these alternatives.

On Aug 27 01:04 PM jerrydd wrote:

>
> Puru is correct, the numbers don't lie but the IEA really does. Facts
> are we are finding 1bbl for every 4 we use in the world. We have
> been living off old oil fields that are falling fast with no where
> near enough to replace them.
>
> Unless the oil sands can make enough energy to run themselves instead
> of burning so much NG they will be just a small part.
>
> Facts are except for the next few months when oil should drop some,
> as soon as the worlds, US economy recovers, well be right back to
> July08 with $150/bbl oil and higher until it drives us back into
> recession.
>
> Oil will go up about $1/gal/yr until we get off imported oil. But
> in about 10 yrs oil will drop as enough other alt energy comes online.
>
>
> The solutions are EV's, PHEV's, NG for semi's, trains, F-T fuels
> from yard, forest, crop, garbage biomass wastes and probably coal,
> NG too. Facts are their are good solutions at price just above what
> we pay now but it will take 10 yrs to deploy them.
>
> There is plenty of energy out there, we just lack the equipment to
> catch, make it.
>
> The problem is not technical but but political. If we stopped giving
> such huge corporate welfare to big oil, coal, tax them for there
> full, real cost the rest would solve itself in a real free market.
>
>
> The beauty of a oil tax paying the costs of oil like the Persian
> gulf military, oil wars, etc, about $1.50/gal is it would cause the
> price of crude to drop making Iran, Russia, oil dictators and terrorists
> pay most of it. With the income we could get a tax break and help
> switching to alt energy.
>
> This would save $1T/yr in imported oil will cost in 2 yrs if we don't,
> $250B/yr in military, oil war costs, enough to pay the national debt
> in 10 yrs plus create millions of jobs and a great economy.
>
> If we don't, will be broke and make our enemies rich. Your choice.
> Call your congressperson today and demand a oil tax with a tax cut.
>
>
> Personally I build custom EV's so I'll make out like a bandit either
> way as will those owning RE production equipment selling the energy.

Aug 28 09:30 PM

[Bobco23:]

Anybody interested in making money?

Most of the comments admit to future shortages, but assert that high prices will bring on demand, or they seek to place blame, or they seek to promote their personal solutions.

Anybody interested in making money?

If we all agree prices are going up, the SA question is, "Where can we most profitably invest", not who is to blame or how the world will evolve.

IMHO those companies with the most proven/potential OWNED reserves per cost (equity price) of ownership are the ones that will pay off the most over the short/medium term. (and if they pay rich dividends currently, so much the better). Isn't that what we are all looking for?

I can't feed my family on blame and ideas for fixes.

Anybody interested in making money?

Aug 29 01:13 PM

[metaforge:]

Agree completely.

> Anybody interested in making money?

Sep 17 12:26 PM