The need to understand the complexity of the oil fields; develops the character of seeding your next investment picks through ETFs, CEFs, and individual select stock issues.
With crude coming off of rough trading last week, but today on Wednesday April 11, 2012 the oil futures were popping up $1.56 on Light sweet Crude Oil contracts.
One of the worst hit assets from last weeks slump was crude oil; a commodity that has been fairly active on the year. A number of analysts believe that high oil prices are partly due to speculators driving up the price due to fears in Iran and other parts of the Middle East. Oil saw its biggest jump as Iran threatened to close the Strait of Hormuz, a narrow body of water through which nearly 40% of the world's supply of crude must pass. This led to back and forth threats between the U.S. and Iran until there were finally sanctions placed on Iranian exports, driving up crude and gas prices alike.
Now, it seems that Iran is willing to cooperate, as talks about nuclear policies (the stem of the issues) are slated to being mid-way through the month. A successful agreement could erase a fair amount of crude's value, which could be good for consumers at the pump, but bad for traders and investors of this commodity. The other day saw crude oil tank as a number of traders sold off for varying reasons, with one of the most significant being the possibility of a peaceful agreement between the U.S. and Iran. But does this control the futures price for oil contracts?
Wednesday oil news showed shrinking supply and reserves. Click on source below to review Bloomberg video report.
ETF's to watch will be seen in the United States Oil Fund (NYSEARCA:USO). This ETF fund tracks front-month crude oil futures. USO is one of the most popular commodity ETFs in the world, with over $1.6 billion in total assets as well as an average trading volume nearing 9 million. The fund is up by near 1% on the year, but stands to lose a fair amount of value if crude continues its slide from last weeks bearish trading tone. Look for USO to be extremely active as traders may try to buy in at a depressed price, or run for the hills and sell their positions before things get any worse.
By reviewing the following chart, you find deep drilling is the start of the end of the oil peak production capacity coming out of ground wells.
Source: oilposter.org Special thanks to: Global Public Media
We prepare, perceptibly. Or we think we ensure. But oil makes the world go around. It heats our homes, runs our cars, powers our societies, finances economic development -- and triggers international hostilities. But the world's oil supplies are running out -- fast. Some think the global supply of oil has already "peaked"; we are already using up the second half of the planet's supply. With a fast-growing global populace, how much time do we have before the demand for oil vastly outstrips supply? Some analysts think we will face resource conflicts in our own lifetime, and a global economic depression provoked by our dependence on oil while trying to push for alternative energy solutions.
Peak oil is the point in time when the maximum rate of global petroleum extraction is reached, after which the rate of production enters terminal decline. The concept is based on the observed production rates of individual oil wells, and the combined production rate of a field of related oil wells. The aggregate production rate from an oil field over time appears to grow exponentially until the rate peaks and then declines, sometimes rapidly, until the field is depleted. It has been shown to be applicable to the sum of a national domestic production rate, and is similarly applied to the global rate of petroleum production. It is important to note that peak oil is not about running out of oil, but the peaking and subsequent decline of the production rate of oil.
M. King Hubbert created and first used this theory in 1956 to accurately predict that United States oil production would peak between 1965 and 1970.
"Our ignorance is not as vast as our failure to use what we know." M. King Hubbert
His logistic model, now called Hubbert peak theory, has since been used to predict with reasonable accuracy the peak and decline of petroleum production of many countries, and has also proved useful in other limited-resource production-domains.
According to the Hubbert model, the production rate of a limited resource will follow a roughly symmetrical bell-shaped curve based on the limits of exploitable and market pressures. Various modified versions of his original logistic model are used, using more complex functions to allow for real world factors. While each version is applied to a specific domain, the central features of the Hubbert curve (that production stops rising, flattens and then declines) remain unchanged, albeit with different profiles.
Some observers, such as petroleum industry experts Kenneth S. Deffeyes and Matthew Simmons, believe the high dependence of most modern industrial transport, agricultural and industrial systems on the relative low cost and high availability of oil will cause the post-peak production decline and possible severe increases in the price of oil to have negative implications for the global economy, although predictions as to what exactly these negative effects would be vary greatly.
If political and economic changes only occur in reaction to high prices and shortages rather than in reaction to the threat of a peak, then the degree of economic damage to importing countries will largely depend on how rapidly oil imports decline post-peak or importing countries push exploration off their own shorelines using oil drilling rigs.
Source: Libyan rebels defend an oil refinery at Ras Lanuf. Photograph: Goran Tomasevic/Reuters
According to the Export Land Model, oil exports drop much more quickly than production drops due to domestic consumption increases in exporting countries.
Supply shortfalls would cause extreme price inflation, unless demand is mitigated with planned conservation measures and use of alternatives.
Optimistic estimations of peak production forecast the global decline will begin by 2020 or later, and assume major investments in alternatives will occur before a crisis, without requiring major changes in the lifestyle of heavily oil-consuming nations. These models show the price of oil at first escalating and then retreating as other types of fuel and energy sources are used.
Pessimistic predictions of future oil production operate on the thesis that either the peak has already occurred, we are on the cusp of the peak, or that it will occur shortly and, as proactive mitigation may no longer be an option, predict a global depression, perhaps even initiating a chain reaction of the various feedback mechanisms in the global market which might stimulate a collapse of global industrial civilization, potentially leading to large population declines within a short period.
Throughout the first two quarters of 2008 are still interesting, there were signs that a possible US recession was being made worse by a series of record oil prices. Are we now moving forward to create an even worse double-dip recession if true oil exploration in the oceans cannot support keeping prices at the pump controlled and keep hyper-inflation in check along with the ugly head of deflation that would signal depression?
This signals the call to support the post peak oil exploration sector and alternative solution plays. We used this next chart as an eye opener for getting the proper vibes on the oil drillers, especially Seadrill LTD (NYSE:SDRL), that gave a view stretching out from 2011 - 2015+.
Source: DnB Markets
Source: DnB Markets
The era of the rigs are here to stay for the near foreseeable future.
An article was written that called for "Watching for a Pullback, Findings Signs of Hope". We still see markets wanting to move sideways and up near-term. The projection is based upon the earnings report out of Alcoa (NYSE:AA) Tuesday evening.
PLAYING CLOSED END FUNDS
We are making our recommendations for investors to expose a portion of their diversification in the oil patch and the closed end fund areas. CEFs are driving progressive dividend returns as again can be seen in issues like Alpine (NYSE:AOD) Point & Figure charting provided by Dorsey Wright & Associates.
Source: Dorsey Wright & Associates
FINAL THOUGHTS ON OIL AND ENERGY
You need to conclude one of the most important issues is the varying types of oil and the differing benchmarks for crude oil prices around the world.
Many might not realize that oil that is pulled out of the ground in Texas isn't generally the same as the product that comes from the North Atlantic. Instead, there are varying degrees of oil based on a variety of metrics such as the oil's API gravity. This (American Petroleum Institute) gravity is a statistic that is used to compare petroleum liquid's density to water. This scale generally falls between 10 and 70, with 'light' crude oil generally having an API on the higher side of the scale while heavy oil has a reading that falls on the lower end of the range.
Beyond API gravity, investors also need to take into consideration how sweet or sour petroleum is. This is generally based on the sulfur content of the underlying fuel with 0.5% being a key benchmark. When oil has a total sulfur level greater than half a percent, then it is considered sour while content less than 0.5% indicates that oil is 'sweet'. Sour oil is more prevalent than its sweet counterpart and it comes from oil sands in Canada, the Gulf of Mexico, some South American nations as well as most of the Middle East. Sweet crude, on the other hand, is generally produced in the central U.S., the North Sea region of Europe, as well as much of Africa and the Asia Pacific region. While both types are useful, end users generally prefer sweet crude as it requires less processing in order to remove impurities than its sour counterpart. So in summary, light and sweet forms of crude oil are heavily prized while heavy sour types of fuel often trade at a discount to their more in-demand cousins.
With these two key factors, investors can then begin to price these different types of oil on the world market. Currently, there are two major benchmarks for world oil prices, West Texas Intermediate (WTI for short) crude oil and Brent crude oil. Both are light sweet crude oils although WTI is generally sweeter and lighter than its European counterpart. As a result of this, WTI often trades at a premium, usually by just a few dollars a barrel. However, thanks to a Libyan crisis which has decreased the supply of light sweet crude in the European region and a supply glut at the main storage facility for WTI in Oklahoma, the premium/discount situation has flipped and now Brent is more expensive than WTI.
Thanks to two ETFs on the market today, and (NYSEARCA:BNO), investors can easily see how the two forms of oil have changed in price over time.
While the day that the last drip of crude is burned up is a long ways out, some parts of the world may be heading for a major pinch in production. As our world population continues to expand, with the total predicted to hit nine billion by 2050, our addiction to crude only increases, as we use oil for a wide number of things in our daily lives. Besides its most dominant use as a fuel for automobiles and the like, oil is also used in a number of other processes like the production of plastics and variety of other industrial outputs.
Of course, as countries begin to eat through their proven reserves; alternative energy will get a closer look from a number of nations across the globe. For the time being, adopting mass use of clean energy would be a very costly process, as it is much cheaper to use fossil fuels as opposed to something like solar or wind energy. But as crude begins to dry up, some nations may be forced to incorporate some of these alternate fuel options in the near future, though many will likely turn to LNG and other fossil fuel derivatives first. Another important factor to note is that there may still be vast oil fields lying undiscovered. All it takes is one lucky strike to find a major reserve that can boost any number of countries for a significant period of time.
Until a major discovery occurs, though, there are several big-name oil producing countries that are in jeopardy of using up their proven reserves. Below, we outline five countries running low on oil reserves, and five companies to watch as the oil drama plays out:
China is the top dog when it comes to emerging markets. Holding the world's largest population, the country is the second highest oil consumer and the fifth largest producer. Currently, China is producing about 3.8 million barrels per day. Proven reserves tally at about 16 billion barrels; putting China at risk of running out of oil in 12 years. In order to combat shrinking reserves, a number of companies are expanding operations abroad, but that will come at higher costs and will have a major effect on the bustling Chinese economy.
The largest Chinese oil company goes to Petro China (NYSE:PTR). PTR has a market cap of $234 billion, making it one of the largest firms not only in China, but also in the world. PTR pays out a healthy dividend of 4.1%, attracting a number of investors to its high payout. Yet those looking at this firm should also note that the company is state-owned and is one of the firms seeking to move operations abroad, so it may be able to avoid major losses if it can establish significant operations outside of China's dwindling oil fields.
Brazil is a popular emerging market that ranks high among global oil players, as its average output comes in at about 2.4 million barrels per day. For the time being, Brazil's reserves add up to approximately 12.6 billion barrels, but that is subject to change. A recent discovery could boost reserves all the way up to 18 billion, though some of Brazil's more recent discoveries may be in oil fields that will be difficult to reach. Everything held constant, however, Brazil will run through their oil reserves in just 14 years' time.
Petrolero Brasilerio (NYSE:PBR), often known as Petrobras, is one of the largest oil drilling/exploration companies in the world, with a market cap of about $187 billion. Because Petrobras is a drilling company, their profits will be directly linked to the amount of oil they can extract annually. As one of the largest companies in the Southern Hemisphere, Brazil's shaky oil outlook could be a major problem for the long-term sustainability of this company.
The Norwegian are currently the sixth-largest oil producers in the world, with close to 2.5 million barrels output every day. Current reserves come in at about 6.7 billion barrels, and with current production, this will tap out in seven years. Unfortunately, with little space to work with, and the North Sea already being well-explored, the country is having trouble finding more reserves, meaning that this seven-year figure has a decent possibility of holding true.
Norway's bellwether oil producer comes from Statoil (NYSE:STO). The company is not only a major player in Norway, but also across the world. STO has a market cap of $77 billion and pays out a nice dividend of 3.9%. Statoil is majority-owned by the government, and while its oil outlooks are grim, the company seems to be finding a number of natural gas deposits, which could be a big industry as crude continues to slide.
Colombia is an emerging market that has recently gained a lot of investors' attention thanks to the expansion of the exchange-traded industry. The country is known for its high volatility and its geopolitical instability. Their current crude output isn't high by global standards, about 670,000 barrels per day, but it's their low reserves that are the issue. Colombia has just 1.4 billion in proven reserves, which could be tapped in as little as six years. One of the country's major problems is a number of foreign companies that have been allowed to extract in Colombian territory, forcing already short reserves to quickly diminish.
As Colombian oil begins to run dry, Ecopetrol (NYSE:EC) will be the company to keep an eye on. The firm has a market cap of $87.9 billion and a substantial dividend yield of 5%. Investors should note that large portions of Colombia are unexplored, and contain geological structures mirroring Argentina, an extremely oil-rich nation (who incidentally will run through reserves in nine years). New discoveries could boost EC, but if foreign competitors get there first, Ecopetrol could be in trouble.
The U.S. has long been the poster-child for crude oil. We consume, by far, the most oil on an annual basis, and we are also among the top three producers. Our current output totals up to about 8.5 million barrels per day; this coupled against reserves of 21.3 billion barrels puts us next to Norway with just seven years of reserves remaining. As the world's largest consumers, we may be forced to depend even more heavily on foreign oil, which has been something of an issue in the past. "For the near future, increasing imports are the only fix for a supply crisis" writes Business Insider. This alarming figure may also spark more use of alternative fuels for our economy.
Exxon-Mobil (XOM) is not only the largest oil producer on the map, but is also the largest company in the world by market capitalization (though Apple is nipping at its heels) (NASDAQ:AAPL). With a dividend payout of 2.5% and an average daily volume of 24.4 million shares, this stock is clearly an investor favorite. Exxon is a multinational company that is also working to bring alternate fuels to market like hydrogen, but with just seven years of oil left, may take a bit of a blow once our reserves start to run out.
Always remember to consult with your financial advisor or seek help to understand risks within investing.
Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.
Additional disclosure: Read my full disclaimer in my profile.