Idle Chatter On "Business As Usual"

I scan through a lot of articles quickly, not reading them closely. I often make errors in interpreting the writer's main points. But the data points help fill in the mosaic of my world view.

A good example is a story over at The Oil Drum today. The writer provides his take on a graph that suggests that peak oil production will drop significantly because of a) efficiencies in conservation; and, b) natural gas substitution. If one is an investor in crude oil, the first graph certainly gets one's attention and raises some concerns. [See this Bloomberg report regarding natural gas substitution: natural gas to make up 2.5% of transport fuel by 2018.]

But that's with a first glance. It's critical to look at the time-frames / the data points in the x- and y- coordinates, respectively.

In this case, the time frame is "legitimate." It starts "now"  (2012) and goes through just a few years into the future (2020) so the time frame is relevant to most investors, young and old.

The y-coordinate is also legitimate, from 88 million bopd to 100 million bopd.

Having satisfied myself the graph's parameters are legitimate, it becomes worthwhile to look at the curves, or the projected data. Very, very interesting. After vehicle efficiency gains and after gas substitution the amount of oil production will tend to level off at 90 million bopd. according to Citi Research.

This is the fallacy of the author's interpretation (for purposes of this discussion, let's assume Citi Research data is correct, which, I think, is a pretty good assumption): the author is comparing what is likely to happen with what it likely not to happen. The "business as usual" line is the data line that no one believes will happen. It's almost Malthusian.

The first important point I take from the graph: the demand for / production of oil will continue to increase from about 89 million bopd to close to 91 million bopd in 2016 at which time it will level off. It never really decreases after that.

The second important point I take from the graph: the slower rise in oil demand is due mostly to natural gas substitution (not to conservation). This is huge news, and great news, for XOM, CHK, the US, the Bakken, SandRidge, ONEOK, and a thousand other companies one could name.

But this is the most important point: the delta between the "business as usual" and the "way it will be" is not all that great. In 2014, the delta is 91.6 vs 91.4 (0.2%). In 2020, the delta is 98 vs 95 (3%). There's a huge difference between 0.2% and 3% but it certainly is nothing particularly alarming.Even a ten percent delta would not be all that concerning. Maybe twenty percent would be, but I am not convinced?

Why?

Go back to the y-coordinate. There are a lot of folks, including ironically enough, the folsk that buy into the Peak Oil theory is that "we" are pretty much maxed out at 90 or 91 million boopd inprodduction. Many (most?) analysts don't think "we" can get much beyond 92 million bopd. If that's accurate, all I can say is "thank goodness" it is not "business as usual."

Bottom line: the graph catches your eye, but once you actually spend some time with it, it's not very alarming to an oil and gas investor. In fact, for XOM, CHK, SandRidge, ONEOK, etc., it looks pretty inviting. 

Maybe there's even a more important point. Most folks agree, including the folks who tend to subscribe to the "peak oil" theory, is that even if "we" are able to keep up with 91 million bbls of oil per day demand, the cost of finding and producing that oil will only be more expensive, and some would argue, the margins of profit will increase for oil companies who "planted their seed corn" in the Bakken in 2010 - 2014.

And now, the fun part: at the beginning of this piece, I pointed out that I often misinterpret articles because I read them too quickly, or misinterpret them. In this case. I only read the headline and looked at the graph.

In fact, the author suggests it is more likely that we will see "business as usual." Wow. I completely missed the author's point. And that makes investing in oil and gas all the most interesting.