Monday, August 31, 2009

Washington Capitulates: Peak Oil Is Real

Whiskey & Gunpowder
Gary’s Note: Even the government can’t ignore Peak Oil anymore. The good news is that civilization won’t come crashing down your ears just yet. The bad news is that the way of life to which you’ve become accustomed will cost a lot more. Doug Hornig explains below. He has something you can do about, too.

Whiskey & Gunpowder
By Doug Hornig

August 31, 2009
Casey’s Energy Opportunities

Washington Capitulates: Peak Oil Is Real

Each year, generally in May, the Energy Information Administration publishes a less-than-eagerly-anticipated tome called the International Energy Outlook, 250+ pages of mind-numbing text, charts, graphs, and tables.

No one reads it. The mainstream media ignore it.


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It’s the product of the best prognosticators in the Department of Energy. Okay, that may be what puts most people off. But if you’re patient enough to dig into it, it will cough up some fascinating nuggets of information.

The present edition is no exception. The report refrains from spelling out the conclusion that seems most obvious from its data. However, confirming a trend begun just last year, the 2009 edition clearly reveals that the government has been forced to admit that Peak Oil is coming. Moreover, it’s expected to arrive much faster than was believed as recently as two years ago.

This represents a remarkable turnaround in the agency’s opinion. Up until 2008, they were predicting unbroken growth in world oil supplies for the next two decades. But in ‘08 and ‘09, the rosy picture turned decidedly unrosier.

Before we look at the numbers, a couple of notes on terminology. The EIA makes its projections based on what its analysts call the “reference case,” i.e., average economic growth. It also provides estimates for better- and worse-case scenarios, but the reference case represents the best guesses they have.

Oil (as we generally think of it), upon which most of the world economy depends, is termed “conventional liquids,” i.e., the stuff that comes gushing up from under Saudi sands. “Unconventional liquids” — extra-heavy oil, bitumen, coal-to-liquids, gas-to-liquids, and biofuels — are also covered in the report, as we’ll see, but conventional is far and away the most important one at this moment in history.

With that in mind, by 2007 the IEO was in its final year of irrational exuberance, confidently predicting that world production of conventional liquids would be 107.5 million barrels/day (up from 81.9 in 2005). That dovetailed nicely with a forecast for world demand of 118 million b/d, with 10.5 million barrels of unconventional liquids taking up the slack.

By ‘08, they had put the info into table form, and look what happened:

Same table, ‘09:

Projected production, as you can see, is suddenly shriveling up. From 107.5 million b/d of oil projected for 2030 in 2007, to 102.9 million b/d in 2008, to this year’s meager expectation for 93.1 million. That’s a drop of 13.4% in only two years, and posits production growth of only 11.6 million b/d (14.2%) from 2006 levels.

If that isn’t an admission that the era of Peak Oil is upon us, what is?

The report assumes that some of this stunning shortfall will be made up by development of unconventional liquids to the tune of 13.5 million b/d, including a jump of 5.9 million b/d in biofuels. At the same time, while conventional liquid production from non-OPEC nations is projected to grow only 7%, OPEC is expected to substantially increase its contribution, ramping up output by almost 25%. (All figures are for the period of 2006-2030.)

Does this seem optimistic? Well, it presupposes some heavy lifting on the part of OPEC, a dicey proposition in the best of times.

And it means creation of the infrastructure necessary to exploit extra-heavy oils, tar sands, shale, ultradeep deposits and other unconventionals, all of which require sophisticated technological know-how and face significant environmental challenges.

Biofuel production could more easily be elevated. But to reach the lofty level of nearly 6 million b/d would necessitate a huge diversion of cropland from food to energy, certain to be attended by a rise in food prices, not to mention potentially serious food shortages. The need for food being rather more primal than the need for gasoline, politicians are going to be reluctant to risk loosing angry mobs into the streets.

Even if all of these developments proceed flawlessly, though, we’ll still have to face a widening gap between production and consumption. Or will we?

As it turns out, we’re in luck! Or so the EIA would have us believe. Because, accompanying that falling supply is — you guessed it — declining demand. In 2007, the IEO anticipated world demand for all liquids of 118 million b/d in 2030. This year, that estimate shrank to 107 million b/d, right in line with production.

The important point to take away from the IEO’s analysis is that the world is facing a decline in liquid fuel production and the government, after years of straight-faced denial, is now admitting it.


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Does this mean we’re going to run out of oil? No. But supply constrictions mean that the good old days of limitless, cheap oil are gone. And, though viable alternatives eventually will be developed, there’s no way of putting a timetable on that. In the interim, we’re going to have to pay up if we want to keep the family jalopy on the road.

How much? The IEO report’s reference case calls for $130/barrel oil in 2030, but that’s based on relatively modest demand increases from India, China, and other developing nations, and we find it very optimistic. It easily could be twice that.

Doug Hornig

P.S.: Rising oil prices mean some belt-tightening, but they also offer investment opportunities, in both conventional and unconventional resource companies. In addition, power-generation alternatives such as solar, nuclear, and geothermal will be coming to the fore.

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A Parting Shot
The world has turned, Shooters.

Today your editor feels like a new man. Fall has fallen! This morning the summer humidity that clings to Baltimore like crime and despair finally broke. The morning air was crisp and clear for the first time in months.

I was up all night and got to feel the change take hold in the wee hours of the morning. My air conditioning has been running every day since June out of necessity. But this morning it didn’t just render the fetid air in my apartment barely tolerable; the room was actually growing cold.

I’d become emotionally dependent on the full roar of the air conditioner, however, and was reluctant to turn it down. I donned a pair of thick socks instead. By the time the sky began to brighten, however, I had to accede to the reality of the new season. I happily switched the A/C to fan mode to keep the cool outside air coming in, and readied myself for work.

And so here I am at my desk once more. No more brief vacations and gallivanting for your wayward editor. You have my full attention. So let’s turn to your letters…


Dan Amoss promised us a bank calamity this week, but I see no evidence. Not that I regret [not] experiencing a disaster, I just want to calibrate the reliability of those whose advice I heed.

You’re correct — we didn’t get the announcement we expected. Our curse seems to be that we end up being a bit too early on some of our calls.

But that’s how you make money: by staying a little ahead of the curve…and keeping your head while others point and laugh.

After some rather pointed e-mails came in about our Bank prediction not coming true, Ian Matthias addressed the situation in The 5-Minute Forecast. Here’s his explanation on Dan’s prediction…

If you’re waiting for us to issue a “mea culpa” and hang Dan out to dry — that’s not going to happen. We think his analysis is first-class, and the nature of this speculation still gives investors time to profit. It’s only over if you sold in a panic.

Of course, there’s always a chance Dan’s pick is either too early or wrong. That’s the nature of speculation. If you can’t stomach trading swings and a potential loss, buy Treasury bonds. (Heh, even that might not pan out.) There are quite a few people who appreciate Dan’s efforts, yours truly included.

If, on the other hand, you’re actually interested in a thorough and clearheaded exploration earnings report of the bank in question — including questions Dan has regarding loan loss provisions and “tier one capital” — see your latest Strategic Short Report alert.

With the play Dan recommended, his readers have until December to be correct on his prediction. I know we’ve got a bunch of very interested Shooters following along on this one, so I’ll keep updating you on this play. Stay tuned to see how this one pans out...

And speaking of explanations of predictions…

In his Daily Grunt, James Howard Kunstler talks about his infamous Y2K prediction:

“A Canadian academic writing a book about ‘prediction’ wrote to me asking if I could shed any light on my Y2K position ten years ago and on the question of making predictions generally…

“The trouble, it turned out, was averted. This is a part of the story usually overlooked by those who mock the Y2K episode. Billions of dollars were spent, and scores of thousands of man-hours were dedicated, to mitigating this problem. Programmers went into these old legacy systems and either successfully reprogrammed them or changed out the hardware altogether — note, this period coincided with the tech boom of the late 1990s precisely because so much new computer equipment was sold. In any case, there were no ‘cascading’ failures of the kind that had been most feared. Lots of systems did fail, but not a critical mass of the largest and most critical ones. The Y2K incident passed into history as a joke.

“I don’t think it was a joke. I regard it still as a legitimate potential catastrophe that was averted. The longer-lasting consequence of it was that it alerted thinking people to the problems associated with the larger issue of over-investment in hyper-complexity. This has become the over-arching ‘narrative’ of the period we are now living through, with all its vicissitudes, and it was what prompted me to write The Long Emergency, which was published in 2005, and World Made By Hand, published in 2008.”

You can read more about that by clicking here.

Heh. In the spring of 2008 I made a prediction…and then events promptly started to prove me hilariously wrong.

In my former life one of my workmates was what they call a super-commuter. He drove across three states — for three hours each way — every day to get our base of operations in Astoria, Queens. (I took a bus up Broadway from neighboring Sunnyside…On especially nice days I walked.)

It was a popular thing to do during the real estate run up when gas was still pretty cheap: buy a house way out on the farthest exurban ring from which commuting was just barely possible. It was a desperate measure to get the last remaining affordable housing. It made sense for those with superhuman stamina, but only as long as gas prices remained low.

These super-commuters were hurting something fierce when oil kept marching over $100 a barrel. I warned my buddy that oil would eventually permanently become so expensive that it would wreck a lot of things…but his particular way of life was the lowest hanging fruit. Peak Oil would kill the exurbs and ruin the super-commuters who had invested in them.

Almost on cue oil prices tumbled.

But I’m not particularly worried about that call, Shooters.

If you’d still like to write in and tell me I’m a just a fool to believe, feel free: I’m not going anywhere. In fact, today I’ll be celebrating how long I’ve been here.

That’s right. It’s been almost one year to the day since your deracinated editor rolled into Baltimore to begin his life with Agora Financial. My first official day was September 2, 2009, but I arrived in the city on August 30.

So I hope you’ll raise a glass with me in honor of the start of my new life. In fact, now would also be a good time to remind you all about those danged barstools I mentioned a couple months back…

We’ve figure out what we’re going to do about those barstool numbers. Those of you who wrote in can look forward to some correspondence. Those of you who didn’t have one more chance to let your voices be heard. Write in and request your barstool number:


Gary Gibson
Managing Editor,
Whiskey & Gunpowder

Research Reports

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