How long will the Gulf oil spill impact the environment?
No one knows for certain. But if the effects of the spill are cleared up more quickly than currently expected by investors, there could be a number of investment opportunities lurking, well, “just below the surface” among those companies sold off by investors during the full flow of bad news.
Ask one group of oceanographers, marine biologists and petroleum geologists, and you’ll get some scary projections. Ask another group of equally-qualified and similarly-educated oceanographers, marine biologists and petroleum geologists, and you’ll get a far more sanguine response. What’s an investor to do?
I claim no academic or engineering expertise in this area -- like most, I don't have the tools to wade through all the conflicting claims and prognostications. But, as a fundamental value investor, I do have the experience, desire and patience to seek unpopular companies whose fundamentals are rock-solid but whose name is currently mud (or Macondo.) And I have some personal experience that makes me a bit more hopeful than others might be.
I have seen firsthand the biggest oil spill in the history of the world. No, that was not the Deepwater Horizon (DH). It was the environmental hell unleashed by Saddam Hussein during the Gulf war. Marching or riding through hundreds of square miles of black, billowing, oily smoke, those of us on the ground ultimately reached the Arabian (if you're an Arab) / Persian (if you are Iranian) Gulf. The devastation there was, if anything, even more unbelievable than what we had seen on land. It was, literally, a sea of oil as far as the eye could see. The best estimates were that it covered more than 4000 square miles to a depth of 5 inches or more. More than 800 miles of Kuwait and Saudi Arabian beaches were oiled and marine wildlife and migratory and non-migratory bird populations were overwhelmed. That was the biggest oil spill ever.
Particulates from the 1 billion to 1.5 billion barrels of oil that went up in smoke on the land only added to the intentional spill in the Gulf, as did some of the oil “spilled” via the sabotaged fields in Kuwait. That oil intentionally spilled directly in to the Gulf was some 6 million to 8 million barrels, as determined by the EPA and the United Nations in the this year.
By comparison, the DH spill is estimated by various US government agencies at 4.1 million to 4.3 million barrels, slightly larger than the previous largest accidental oil spill in history, Pemex’s Ixtoc 1 field offshore Mexico, also in the Gulf of Mexico, estimated to have spilled 3.3 million to 3.5 million barrels of oil.
Incidentally, the Exxon Valdez is estimated to have spilled anywhere from 260 thousand to 750 thousand barrels, which doesn’t register among the top spills of this or the last century. But here’s the difference: the Valdez ran aground at latitude 61° 02’ North. In those frigid and slow-moving waters, the problem was compounded by the remoteness of the location, the poor preparedness in contingency planning for such an incident, the dearth of microbial activity in those waters, and the rocky shoreline and gravel beaches.
This last was confirmed recently by an engineering team from Temple University which concluded that, 20 years after the Valdez ran aground, there are still some 475 barrels of oil trapped in the lower layers of gravel, at which level the head of the team, Michel C. Boufadel, chairman of the Department of Civil and Environmental Engineering, estimates that water -- which in open ocean or sandy beaches would have broken up and dissipated the oil long ago -- moves through this lower level of gravel up to 1,000 times more slowly. In this nearly oxygen-free environment there are few microbes that feast on the oil and biodegrade it.
The Deepwater Horizon drill site, however, lies at approximately latitude 28° 44’ north of the equator. The epicenter of the worst of the intentional Persian Gulf oil spill was almost directly east of Kuwait City, which lies at 29° 20’ North. The Ixtoc 1 spill took place at latitude 19° 44’ North. That is to say, these three huge spills occurred in remarkably similar waters. So, rather than compare apples to oranges using the DH and the Exxon Valdez, it seems the more rational and empirical observations would be found by comparing the Deepwater Horizon to Ixtoc 1 and the Persian Gulf spills. DH lies between the latitudinal locations of these two, so its after-effects and recovery times are more likely to predict the likely recovery from the Deepwater Horizon.
I have returned to the Persian Gulf since the Gulf War. I was most recently there on temporary military duty in 2005 in Qatar, where I happened to meet a marine biologist on my departing flight. When I told him I was surprised that the waters seemed sparklingly clear, he informed me that he believed the Gulf had completely recovered to pre-war conditions by the time of his studies, from 6-12 years later. When I asked how it was possible to return from the amazing devastation I had witnessed – from which none of us thought it would ever recover – he replied that Nature has been dealing with natural oil seeps forever and microbes have evolved and continue to evolve that dine on oil and turn it into organic material consumed by small (but larger than microbial) marine organisms.
He also pointed out that, at that latitude, the intense heat creates greater evaporation of the oil which, sooner or later, finds its way to the surface. And he said something else I find eminently logical: the more food there is for any species, the more its population will expand. By analogy, in years when there are big rains resulting in ample vegetation, our rabbit population out West explodes – and so does the coyote population that feasts on rabbits. In less fecund years, more of each species, whether plant or animal, might die of starvation, or disease or trauma caused by the weakness that subsistence-only nutrition causes. By extension, he explained that the microbial population bursts out to match the increased level of food, then declines again as the food source declines to more normal levels.
The story seems to have been the same in Campeche Sound, site of the Ixtoc 1 spill. Luis Soto, a deep-sea biologist who had just received his doctorate from the University of Miami, said he feared the worst when they examined sea life in the sound once Pemex capped the blowout in March 1980. "To be honest, because of our ignorance, we thought everything was going to die," he said. But Soto and other scientists now say Campeche Sound recovered quickly, and its large shrimp industry returned to completely normal within two summers. The scientists didn't know then what salutary effects the warmer temperatures of Gulf waters, intense solar radiation, and huge microbial population already there feeding on the 980,000 barrels of oil the National Academies Press (a clearinghouse for studies from the National Academy of Sciences, the National Academy of Engineering, the Institute of Medicine, and the National Research Council) estimates seep into the Gulf of Mexico every year.
According to studies by Texas A&M, thanks to microbial activity and solar radiation aquatic life along the shoreline in Texas (where beaches were closed due to oil washing ashore in 1979) had returned to completely normal within three years. One of the marine biologists in charge of these studies said of this activity, "The good side of having all that seepage out there is that we've got a huge population of microbes, bacteria that feed on petroleum products in the water and on shore. So that helps the recovery time."
I give some credence to the non-marine biologist, non-petroleum geologist members of the press, and shrill warnings from those whose agenda includes sky-is-falling projections every time fossil fuels are discussed. But I must balance these against the empirical evidence of both the Persian Gulf and Ixtoc 1 spills.
If history repeats in some way closer to these actual experiences than the strident projections of those who have not studied these previous incidents, then investors may have oversold the big oil companies that are exploring offshore, particularly in the prolific Gulf of Mexico. Much of the "spam" mail I get lately is from newsletters touting shale-fracked onshore natural gas or other oil deposits since "offshore drilling is dead for a generation or more." I disagree. Based upon the empirical evidence from the previous two largest spills in history, I believe investors have oversold the offshore drillers.
Land drillers have enjoyed a resurgence of interest, but many investors are holding their breath, and their wallets, when it comes to offshore drillers and oilfield services companies. While I still expect a poor market over the remaining months of the summer, I am willing to begin taking pilot positions in the biggest of the big oil companies operating in the Gulf of Mexico. We have bought shares of Exxon Mobil (NYSE:XOM), Royal Dutch Shell (NYSE:RDS.B), Chevron (NYSE:CVX), Statoil (NYSE:STO) and, at these prices, even BP.
It isn’t enough that the empirical evidence and historical record above are accurate, of course. Investors must also reach the same conclusion -- preferably the week after we finish loading up! Given the intrinsic value in these selections, I am willing to begin accumulating them now and adding to them on any pullbacks. I'm also willing to buy two drillers, one of which works on both land and sea and the other, more specialized, the premier offshore service and drilling company in the world. I'll discuss these in depth in Part II.
Author's Disclosure: We and those clients for whom it is appropriate own or are purchasing XOM, CVX, RDS.B, BP and STO -- as well as the two service & drilling firms we'll discuss in our next post.
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