Oil: $182/barrel

From: Glenn Morton <glennmorton@entouch.net>
Date: Wed May 05 2004 - 22:22:00 EDT

This week is the major and largest oil field conference in the
industry--the Offshore Technology Conference. During this week I had
the pleasure of meeting (and actually getting to know a bit (he
remembers me, called me by name today)) Matt Simmons, an investment
banker for the energy industry. He has been instrumental in bringing
the knowledge of the coming energy crisis to public awareness. I was
fortunate enough to be able to attend the lunch today where he gave a
speech, and Lord willing will attend a full morning tomorrow of experts
some arguing that there is a problem others arguing that there isn't. In
the following, if I misrepresent anything Mr. Simmons said, it is my
fault or bad hearing.

Today's talk was about the question of what the price of needs to be in
order to assure a supply of energy in te future. Simmons pointed out
that at $30 per barrel or less, the entire oil industry has had lousy
returns on investmentfor the past 20 years. Because of that, no one has
any money to invest in new plants and equipment. 15% return on
investment is what you expect for brick and mortar--a mortgage.
Spirits--single malt kind of spirits--has a 50% margin. They view wine
as a terrible investment and wine gets a 15% return. Yet the oil
industry is much higher risk than Scotch and requires a higher return.
But it isn't there.

Simmons noted that oil was the real miracle invention of the 20th
century. It created potable water, it created cheap transportation. It
created a livable lifestyle in the West.

 Another talk a couple of days ago put a punctuation mark on this point.
They noted that R&D in the Oil industry as a percentage of sales, was
bracketed by the beverage and tobacco industry research. That says that
all those who think we will use technology to get more oil to market,
need to re-evaluate. We aren't really developing new technology in the
oil industry. We have been trying to survive.

To start answering the question of what the price of oil needs to be to
ensure a stable (not growing) supply by 2030, Simmons cited an
International Energy Agency report which said that investment needed to
be 16 trillion dollars. My recollection (may be wrong is) is that he
said the report needed 10 trillion for electricity and 6 for oil.
Simmons felt that the real figure for oil and gas was $30 trillion.

He noted that short term contracts have destroyed the value in the oil
industry, and thus destroyed the investment.

Saudi Arabia had 6 million people in 1970, 21 million in 2000 24 million
in 2004 and is expected to have 40 million in 2014. To bring their
population to a $15,000 per year income would require 6 million barrls
per day at $50 per barrels. But, Opec has 523 million people. In 1980
or so, they had a $1900 per capita income and it has fallen to $1175
today. He noted that this situation is bad for both the west and for
Opec. High prices are considered bad for the economy, but not having
energy is worse. Because oil and other commodities have been selling at
30 year lows for the past few years, there has been little investment in
the minerals area. We have a growing economy on the backs of poverty.
(I would not call Simmons a bleeding heart liberal.) He notes elsewhere
that we have not invested in the electricity grid, or in energy
infrastructure for years and years. This is bad for us because we will
not have energy and bad for them because they remain poor for the
purpose of having cheap energy. To bring OPEC countries up to $15,000
per capita would require $182 dollars per barrel. Without that, we
won't have the money to invest to maintain the energy supply.
California, I might add, is experiencing this lack of investment in
2000, 2001 and probably this year.

He noted that other commodities were selling at 30-year lows and
suggested that globalization was not a good idea. It was based on the
concept that raw materials were cheap, and transportation was
essentially free (cheap oil). As I said, I didn't expect to hear this
from a hard nosed investment banker. Rubber prices, he said has
trebled. It takes 24 years for a rubber tree to mature from planting to
first harvest. Because of low commodity prices, they haven't planted
trees in 24 years.

He noted that affordable energy is a luxury we have wasted. Of the oil
industry he said that we have no blueprint on how to maintain the energy
supply and indeed, we have no new factories or no idea of how to
recruite the 50,000 people we will need in 5 years when the current oil
industry workforce begins to retire. Part of my job involves knowledge
management. We are doing that to ensure that our knowledge gets to the
next generation, whenever they show up. Another author in another paper
referred to this change of personell as 'the crew change.' In the next
10 years, almost all of us currently in the oil industry will retire.
There are very very few young people. Who will find the oil for

One of the most fascinating things he said was about the book Limits to
Growth by the Club of Rome, published in the early 1970s. That book
talked about running out of resources. The book came out just before
the Arab Oil embargo in 1973, and people assumed it was talking about a
crisis at that time--e.g. running out of energy was happening at that
time. When he read the book, he was surprised to find that it was
talking about running out of commodities between 2030 and 2050 and that
they felt the issues should be studied now, not in 30 years. But
because the oil crisis went away, the book and people associated with it
became discredited. And people today refer to that book as a false claim
of catastrophe, when in fact it was talking not about last century but
this century. Simmons told me personally that he thinks we have
actually peaked in oil production. That matches both Kenneth Duffeyes
view, and my tentative view. If we haven't peaked, we are within a year
or two.

End of review of Simmons.

Simmons has noted in other speeches that the rise of China and India as
users of energy and raw materials, will radically change the balance.
While he does not predict the price of oil (this is very important. He
made no prediction), in my opinion, we are on the cusp of a huge rise in
price. Here is why.

This weekend at Yanbu, Saudi Arabia, employees of a contractor came into
the offices of a company and shot many of the higher execs. These
people were authorized to be on site. The US government has told people
in Saudi that they can't assure their safety and that they should
consider leaving the country. The Saudi economy can not survive the
mass exodus of Westerners. They will collapse, and it is likely that
Islamic radicals will take over. The turmoil will probably cost 50% or
more of Saudi daily production (about 5% of world production). If this
happens, buckle your seat belt.

One of the really interesting items I noticed at the convention was at
the Saudi Aramco Oil company booth. There were no Saudi's. I have been
going to conventions for over 20 years and have seen this same booth for
years. Today when walking past it, there were no Saudis. All the people
manning the booth were Americans. I have never seen this situation
before. This says something very bad about the relations between our
two countries.

As is my practice, I seek out engineers who have worked in Saudi Arabia.
I met a fellow who fit that category who told me that Saudi Arabia has a
capacity of 12 million barrels of fluid per day. That meant about 11
million barrels of oil capacity when the water cut was less than 10%.
But today with water cuts of 40%, it was amazingly close to quota the
Saudi's have. Without lots and lots of investment, he said they
couldn't possibly increase their production.

I will be offline for a few days due to celebrations concerning my son's
graduation from seminary. I won't be able to respond very often.

Yes, Walter, this is doom and gloom. We need to solve the fusion
problem. I will report on what I hear tomorrow sometime next week.
Received on Wed May 5 22:23:03 2004

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