In a riveting talk that lasted well over an hour, Marcio detailed the immense petroleum potential of offshore Brazil, as well as the Amazon Basin.  If Marcio’s estimates are correct, Brazil may be the location of near 200 billion barrels of additional petroleum resources.  That’s well within the range of current resource estimates for Saudi Arabia.

For good measure, Marcio described the petroleum potential of offshore West Africa — another 130 billion barrels — as well as the Congo region, with 50 billion barrels or more.

Finally, Marcio described the “unknown potential of the US back yard, the Gulf of Mexico (GOM).”  Marcio offered remarkable insight into the deep regions of the GOM, 100 miles and more offshore Texas and Louisiana.  He showed early work he performed on a number of GOM areas, including the site of BP’s (BP: NYSE) recent billion-plus barrel find at the Tiber site.

It was clear from the reaction of many in the ASPO audience that Marcio hit nerves.  If his analyses of the South American, African and GOM petroleum systems are right, then in the future the world has access to much more conventional oil than people previously believed.  But it’s not the same as saying the nothing has to change in modern habits of energy use.  Getting this oil will require a trillion-dollar level of offshore, deepwater investment.  It’s a 50 to 100 year project.

The new thinking about deep petroleum systems may allow the world’s energy thinkers to back off from raw geologic concerns about the wheres and how-muches of resources.  But like a game of “whack-a-mole,” the reduced worry about geology now translates into a new emphasis on exploration and development technology, as well as capital, skilled personnel, political issues, environmental safety and climate alteration.

In the past 20 years, Marcio has pioneered the idea of detailed geochemical analysis of “petroleum systems” in the Southern Hemisphere.  The goal of the work is to identify and locate deply buried oil-bearing zones.  Marcio’s work led directly to dozens of oil finds by Petrobras, both onshore and offshore.  His work has also led to significant oil finds in the Caribbean region, Colombia and Peru.

Some Bad News

After Marcio Mello offered his ebullient view of future oil supplies in the world’s deep waters, the next day was a return to earth for the assembled throng at the Denver meeting of the Association for the Study of Peak Oil & Gas. The day was filled with well-informed viewpoints on the looming issues of energy scarcity in a capital-constrained world. Among other things…

Geologist Art Berman offered a decidedly negative view of the latest “big thing,” which is obtaining large volumes of natural gas from tight shales. In a comprehensive review of production and flow rates from several thousand wells drilled in the past decade in the Barnett Shale of Texas, Mr. Berman has a gloomy forecast.

Looking at a large sampling of Barnett wells, the overall data reveal that initial gas flows decline rapidly. With some wells, the drop-off is as much as 70% in the first year, with further declines of 20% in the second year.

This hardly dovetails with the happy talk about how “shale gas” will supply U.S. energy requirements for the next several decades, if not a couple of centuries. It appears that most Barnett wells are short-term money losers, with a few prolific wells carrying the bulk of capital expenditure. Across the industry, according to Mr. Berman, the whole process stays afloat due to liberal application of borrowed money, as well as dilution of existing shareholders by production companies issuing new stock.

According to Mr. Berman, the picture is not much better in other shale plays, such as the Fayetteville and Haynesville shales. And similar gloomy data are just now starting to come in on the embryonic gas play in the giant Marcellus formation of Pennsylvania.

And Peak Oil Still Looming

Matt Simmons gave another of his famous talks about the specter of Peak Oil. The only things that are changing, according to Mr. Simmons, are that things are getting worse for future energy supplies. It’s difficult to say with specificity how bad things are, because the data are so poor on a worldwide basis.

“Look at what happened with the bad information we had, or didn’t have, with the financial institutions over the past couple of years,” said Mr. Simmons. “With our energy data, it’s worse. We’re in for some shocks that will change our lives in ways that’ll rival Pearl Harbor.”

Expect to see oil at $200 per barrel by the end of 2010, according to Mr. Simmons. Also expect to see net oil exports from Mexico simply vanish within 24 months or less. This will play havoc with U.S. refiners on the Gulf Coast. Mexico has simply delayed for too long its effort to explore, drill and rebuild its fast-depleting oil resources. Mexico is going to have to scramble to salvage something from its looming energy disaster. These die are cast.

Things could go wrong with energy supplies in any of a dozen places, according to Mr. Simmons. For example, there’s a stealth “Twitter revolution” in Iran that’s slowly shutting down that country’s oil production. Shutting down the oil industry was the straw that broke the camel’s back and brought down the Shah in 1979. There’s some thinking that it may work to rid Iran of its mullahs.

In Venezuela, the output of the state oil company PdVSA is declining at alarming rates due to political interference and underinvestment.

In Nigeria, the low-grade civil war could quickly morph into a large-scale civil war.

In Iraq, according to Mr. Simmons, “They’re in the dark about how to rebuild their oil industry.”

And of course, a lucky terrorist shot could take down any of hundreds of major oil installations worldwide, wreaking havoc through the following ripple effect.

Mr. Simmons admires Brazil’s Petrobras, calling it “the finest large oil company in the world today.” But the offshore success of Petrobras will simply not be able to make up for the multitude of other problems with the global energy industry. There won’t be enough oil, and it won’t arrive in time. Longer term, Mr. Simmons expects to see oil at $500-700 per barrel. “People need to understand how expensive it is to obtain oil,” said Mr. Simmons.

Much of the world’s energy infrastructure is old and rusting and will require several trillions of dollars to replace — if it can be replaced. (Is there enough steel, for example? Where will the money come from?) Add the aging work force, within which many new hires were laid off in the past year. There’s a serious lack of skilled talent across the board, and no amount of clever management and automated “expert systems” will make up the difference.

Finally, new technology is coming on line slower than most people anticipated. The deeper, more challenging environments are sucking down technology and money, and yielding less than expected in many cases. According to one study, only eight out of 100 major energy projects came in on time, were within budget and yielded the expected volumes of oil and natural gas. Thus are high costs, delays and reduced cash flows hurting the ability of the energy industry to maintain adequate levels of capitalization.

The stark fact is that oil is going to get a lot more expensive and the bull market in oil will be firmly in place for a long time. Smart investors would take advantage of any corrections or dips to get themselves set for the ride.

Until we meet again,
Byron King

October 20, 2009

An Update on Peak Oil from ASPO was originally featured on Whiskey and Gunpowder

“I don’t know if I will live to see it,” said Brazil’s president Luiz (Lula) da Silva a couple weeks ago. “But Brazil has to transform itself into a big power in the 21st century. We have everything to make it happen. We are not talking about a little country here.”

No, indeed. Brazil is not “a little country” anymore. Any prudent investor has to consider how to hitch a ride on the Brazil growth story. Brazil is transforming into one of the world’s great powers in this century. It’s important to follow the news from Brazil. At the same time, you have to know where to look, and how to read between the lines.

By official count — what the Brazilian government will confirm — the rocks of Brazil hold nearly 20 billion barrels of proven reserves. That number is on par with the total for U.S. oil reserves, including Alaska and the Gulf of Mexico.

It’s an impressive number, but then there’s also the unofficial Brazilian reserve count. How much oil is “really” down there under Brazilian jurisdiction? It depends with whom you talk. Some Brazilian officials will smile and say the country has 50 billion barrels of resources. If the Brazilians can tap into this treasure, it adds up to more than twice the total reserves of the U.S., including Alaska.

Other knowledgeable — VERY knowledgeable — Brazilians give much larger estimates. I’ve seen estimates that place the resource number at “over 100 billion barrels.” This puts Brazil in with the largest of the large oil nations, such as Iraq, Iran and Saudi Arabia.

These massive oil resources offshore Brazil lie beneath deep water and thick layers of salt. And since it’s all within Brazilian waters, the government of Brazil is increasing its control over offshore development. This way, Brazil will have its own oilmen keeping an eye out for the overall national interest — and making big money for the Brazilian treasury.

The new level of Brazil’s state control over oil development is a strategic decision. Brazil is counting on the hydrocarbon resources to help propel it forward as one of the world’s major powers. And the development in Brazil will control the destiny of a good number of players in the OI portfolio.

Many companies whose fate is tied to the wheel of the Brazilian ship of state are in that portfolio. All of them have operations that span the globe. They’re not a pure play on Brazilian energy development. Just the same, it’s nice to know that they’ll be pulling down a big chunk of business in one booming region over the next couple of decades. As I see it, these firms are long-term core holdings for any diversified energy portfolio.

Gold on the Move

This week, the price of gold touched $1,040 per ounce. Silver also took the elevator to higher floors, to now over $17 per ounce. It’s been good news for all of the gold and silver miners in the OI portfolio.

We’re way up on many of the miners I’ve added this year to the OI portfolio. Some of the beaten-down guys are also showing us their inner Lazarus as precious metals prices soar.

What’s with the Rising Tide?

I just love it when the stocks in the OI portfolio are going up. It beats the heck out of what we experienced last October with the meltdown, that’s for sure. And it makes it easier to be the editor of a financial newsletter that focuses on precious metals, energy and other natural resources.

What’s going on? What’s with the rising tide? I believe we’re seeing some short covering in the precious metals arena. It has always amazed me in the past couple of years that there were people out there shorting gold. Huh? It’s like that scene from the movie The Deer Hunter in which Robert De Niro is playing Russian roulette with a pistol holding bullets in the chambers. You don’t have to be crazy to short gold, but it helps.

I may not have the same eyesight today as back when I flew Navy jets. But how close do you have to look to see that the U.S. dollar is in trouble? Yet people still want to bet on the dollar and against gold? Hey, it’s a free country. And I’ve spent the past few years feeling pretty lonely at times as I described my vision of monetary gloom and doom.

So now the dollar is dropping due to bad news on many fronts. The U.S. economy is NOT “recovering,” contrary to the propaganda from Washington. Unemployment is up, and it’ll stay up for a long time. There’s a structural readjustment going on within the U.S. economy, and it’ll take years (maybe decades) to play out. Meanwhile, U.S. tax policy, energy policy and the overall political process are a train wreck in living color. Can anyone explain to me how this has a happy ending?

The world, of course, is noticing. Now we read about a group of nations (the usual suspects, but add in modern allies Japan and France) trying to figure out how to ditch the dollar and use some other medium of exchange to trade oil. It’s not exactly a new rumor, but now it’s getting traction. And like people smelling smoke in a crowded theater, dollar holders are looking for the exit signs.

Is anyone surprised at this? How much fiscal and monetary abuse can the greenback stand? Hence, the precious metals prices are levitating.

We’ll probably see a pullback in precious metals prices, but that’s just going to be profit taking and the market working its magic. Long term, the metals are still going up.

It’s part of the long-term thesis of Outstanding Investments. Go with precious metals. Go with energy plays. Go with solid resource plays.

Until we meet again,
Byron King

October 8, 2009

Energy, Brazil, Gold: What More Could You Want? was originally featured on Whiskey and Gunpowder

Much of Brazil’s South Atlantic development will require drilling wells in waters up to two miles deep, through four-five miles of rock beneath the seabed. The prize at the end will be oil deposits with reserves estimated in the tens of billions of barrels. With access to this offshore bounty, Brazil expects to take its place among the first ranks of energy-producing nations in the world.

Brazil’s state-controlled national oil company (NOC), Petroleo Brasileiro SA (Petrobras) plans to spend over $175 billion in the next five years just on offshore development. The immense investment involves buying and building dozens of new drill ships and seagoing platforms, along with many dozens more support and servicing vessels. Petrobras will lay thousands of miles of pipelines on the seafloor, connecting massive complexes of subsea equipment that will sit atop hundreds of oil wells.

To finance much of this development, Brazil has turned to China. With the active support of the Chinese government, many Chinese banks are lining up to extend loans to Brazil’s energy sector. Right now, there is an agreement for a Chinese consortium to lend Petrobras $10 billion. In exchange, Petrobras will eventually ship 200,000 barrels of oil per day to Chinese refineries. There are more such long-term finance supply deals in the works.

The Chinese government has established strategic guidelines for its national firms. That is, the Chinese government has set goals for Chinese firms to supply China’s long-term needs for energy and other natural resources. The Chinese are looking well ahead into the rest of this century, and even into the 22nd century. They want to ensure their future access to a diverse global supply chain, as well as win entrée into resource-rich regions of the world for Chinese industries and support firms.

Why are the Chinese receiving such a warm welcome in Brazil? According to Sergio Gabrielli, CEO of Petrobras, “The U.S. has a problem. There isn’t someone in the U.S. government that we can sit down with and have the kinds of discussions we’re having with the Chinese.”

In other words, there is a new geopolitics of oil at work. In the olden days, it would have been large international oil companies (IOCs) like Exxon Mobil, Shell and BP walking into a room to meet with the Brazilians. The IOCs were the only game in town. They controlled the financing and the technology for large developments.

But today, the biggest deals begin with a political understanding at the top, hammered out between the highest levels of the respective governments. This top-down political deal making cuts out the IOCs, except where they have technical expertise that can be hired on a contract basis.

In essence, we are witnessing the end of the post-World War II economic construct of the world’s financial system. That construct always had a Western bias. But the 2008 crash of the Western business and financial model has changed everything. It has left a barren worldwide financial landscape for large development projects. Most traditional Western financing is simply not available for large projects. And as French author Francois Rabelais (1494-1553) once noted, “Nature abhors a vacuum.”

Thus has the Western financial crisis handed well-capitalized, government-backed Chinese banks and industrial firms an unmatched competitive advantage. With the traditional credit markets dry, Chinese banks have transformed into key lenders for the resource developments that will fuel the next generation of humanity. Indeed, for now, the Chinese are the world’s ONLY lenders for large resource development projects. See Brazil, Exhibit 1.

China’s Rare Earths Monopoly – All But Insurmountable

China’s support for Brazilian energy development is not the only angle that the Chinese government is pursuing for its future gain. China’s large reserves of foreign exchange, as well as its national strategic focus, has enabled incomparable – even insurmountable – progress for the Middle Kingdom to corner the world supply of substances called rare earths. Here’s the production chart for the past half century. Obviously, something is going on here.

Now that we’ve seen this chart, the questions arise: What are rare earths? And why are they important?

Rare earths are the 15 elements within the lanthanide series of the periodic table, plus the elements yttrium and scandium. The best known are lanthanum, cerium, neodymium, praseodymium, gadolinium, europium and samarium.

Here’s why rare earths are important. They’re used in a wide range of industrial and electronic applications. For many years, large amounts of lanthanum and cerium have been used in petroleum refining, with the result of increasing yields from each barrel of oil by about 10% while extending the life of other expensive catalysts like platinum. And rare earths find their way into myriad other applications, from aerospace super-alloys to rechargeable cell phone batteries.

More recently, large volumes of rare earths (especially neodymium) have gone into magnets. In fact, rare earths are a key component in strong, permanent magnets. It’s not those cute little refrigerator magnets; your computer contains a number of tiny magnets in its hard drive. If there are no permanent magnets, there are no computers. Or DVDs or DVRs or iPods, etc. Say farewell to your wired way of life.

And then there are the giant 1-ton magnets used in large windmill assemblies. Each windmill magnet is about the size of a car engine and uses 560 pounds of neodymium. The implication is that if the U.S. wants to erect windmills to generate electricity, the nation is making a long-term commitment to buy and use unprecedented amounts of neodymium. And there are NO substitutes. For just this one “clean energy” application, large amounts of rare earths – and the ores and mines to produce them – are essential.

There are many other clean-energy applications for rare earths as well, particularly in the now forming electric car industry. Neodymium magnets are key components in electric motors and regenerative braking systems used in hybrid vehicles. Without these magnets, no electric cars will ever roll off an assembly line, let alone whiz down an American highway.

Another significant demand for rare earths will come from large rechargeable batteries for electric cars. Nickel-metal hydride (NiMH) rechargeable batteries, for example, contain cerium and lanthanum in a form called “mischmetal.” And right now, NiMH batteries are the battery of choice for many hybrid vehicles. Overall, a typical hybrid electric vehicle can use about 50 pounds of rare earths – between the rechargeable battery pack, the permanent magnet motor and regenerative braking system. (Plus other tiny magnets for the sound system, power windows, power seats, windshield wipers, etc.)

So clearly, demand for rare earths is set to skyrocket. Just clean energy applications will drive unheralded demand for metals of which most investors – let alone consumers – have never heard.

It’s also important to keep in mind that almost none of the rare earths used in large power systems (like windmills) or electric vehicles (such as with NiMH batteries) are currently being recycled. The long lifetimes of the magnets and batteries, coupled with the lack of recycling technologies and dedicated facilities, means that any increase in supply can only come from new mining.

Another factor is that there appears to be an official Chinese policy to slow down export of rare earths. Chinese exports have decreased by 8% or so each of the past three years. Chinese suppliers have placed foreign customers on allocation, at reduced quantities from years past. The Chinese explain that they have closed mines for environmental reasons. Yet the Chinese also promise adequate supplies of rare earths if foreign users will move their industrial facilities into China.

According to Yoichi Sato, head of the Rare Earths Department of Japan’s Mitsui Industries, China is displaying its long-term strategy toward these critical elements. Mr. Sato believes that China is playing a complex game with the world’s rare earth consumers.

First, China is restricting rare earths exports, to provide its own high-tech industries with the chance to flourish and gain a competitive edge over rivals in Asia, Europe and the U.S. And second, it will force many foreign firms to move their high-tech factories and research centers to China to circumvent quotas. China, to be sure, has a small army of highly capable scientists and engineers who focus on rare earths applications – over 15,000 Ph.D.-level individuals, by one count.

Mitsui’s Mr. Sato believes that China will use its existing monopoly status in rare earths production to crush any competition that emerges. While about 42% of worldwide rare earths resources are outside China, there are NO non-Chinese sites with any significant processing or refining capacity. In the game of rare earths, China holds almost all of the cards.

Mr. Sato has stated, “Many people are looking at establishing alternative refineries and sources outside China, but the investment is not necessarily a sound one because of the threat of price revenge by China. If new projects emerge, as they have recently in Malaysia and Australia, China could just drop its prices and force rivals out of business.”

And as if on cue, in April 2009, Chinese firms used their financial muscle to buy large stakes in potential foreign rivals in Malaysia and Australia.

I hope that you now understand the importance of rare earths to the 21st-century economy of the West, particularly to the energy future of the U.S. I’m following this situation very closely. There ARE some potential investment opportunities in rare earths, but only in very small, thinly capitalized firms.

Until we meet again,
Byron King

June 12, 2009

Brazil’s National Commitment to Energy – Bankrolled by China was originally featured on Whiskey and Gunpowder

Wrapping Your Brain Around the OTC

Sometimes when 70,000 people head to Reliant Stadium, it’s to watch the Houston Texans play football. The spectators understand what’s going on down on the field. In true Texas fashion, they know the rules of football. There are 22 players moving back and forth, with the rest of the two teams and coaching staffs on the sidelines. It’s something around which you can wrap your brain.

But the OTC? How do you wrap your brain around the OTC, its several thousand exhibitors and many dozens of speakers?

Do you want to know how to do seismic work on the other side of the world? How to build work ships the size of aircraft carriers? How to anchor a 75,000-ton rig in swift-moving water, while dangling a 20,000-ton riser-string that’s nearly two miles deep? How to drill oil wells 250 miles out at sea? In 9,000 feet of water? Through 14,000 feet of rock? Through 8,000 feet of salt? Into fluids with pressures of 25,000 pounds per square inch? (By comparison, your household water pressure might be about 40 psi.) Into super-heated oil filled with poisonous gases? How to move that super-heated oil to the seabed from beneath four miles of the earth’s crust? Then how to move that oil across hundreds of miles of ocean bottom, and do it in the freezing waters of the deep ocean, even at the equator and, of course up in the Arctic? Do you know how to do that? Where does the technology come from? Who builds the equipment? How do you pay for it? Where is the work force to accomplish these tasks? What about the government policies that influence it, for better and worse? How do you make 25- and 50-year plans — yeah, it takes THAT long — in a world where prices and policies change by the month? How about the national cultures that nurture (or suppress) the whole process?

Which Battle? Which War?

Let’s look at things from the standpoint of national cultures. When I attended the Naval War College a few years ago, going through a course for senior officers, one professor said something that stuck with me: “Your job is not to fight the last battle of the last war. It’s to fight the first battle of the next war.”

“The first battle of the next war?” Damn right. Sure, you’re going to study history. Sure, you’re going to read about the last war and its last battles. But you have to understand that things change. You have to realize that everybody else is studying the last battle of the last war. So you probably have no real advantage going into the next great effort. The other guy has read the same book.

Thus, if you want to succeed, you have to get ahead of the future. You have to write a new book. It’s YOUR book. Indeed, you have to invent that future. You have to decide what you want to do, and then acquire the people and equipment to get it done.

Brazil — Gearing up for the First Battle of the Next War

Where am I going with this? Let’s look at Brazil, for example. The Brazilians are gearing up for the first battle of the next war, so to speak. They intend to survive as a prosperous, industrialized country in the 21st century, despite intense future competition across the world for energy fuels and other natural resources.

Down in Brazil, they’re in something like national rapture at the prospect of drilling up the deep pre-salt hydrocarbon plays in the offshore basins. The estimates are that the deep basins off Brazil hold between 20-100 billion barrels of oil. Maybe more.

The entire nation of Brazil, apparently, revels in the prospect of investing over $120 billion in offshore development in just the next eight years. They have a plan. It’s their moonshot. The Brazilians believe that the offshore environment will bring their industries firmly into the modern era. Brazil wants to be a world power in the 21st century. And the oil? Well, of course they have plans for that oil.

As a nation, Brazil cannot wait to move ahead into its offshore realm. Just Petrobras, the national oil company, wants 40 new drilling rigs, each over 60,000 tons; and 32 new production units, each near 100,000 tons; and about 130 large supply vessels, each over 100,000 tons.

Petrobras has plans to emplace HUNDREDS of subsea systems on the deep ocean bottom to bring that oil into production. The Brazilians will lay thousands of miles of underwater pipeline, with all the associated ship-support and other equipment that entails.

The Brazilians are not living in the frozen past. They’re not hostage to paralyzing myths. The Brazilians envision a future for their nation, and they’re acting on it. They see hundreds of deep-water oil wells pulling petroleum out of the crust from many miles down and piping it ashore to their refineries and industries. Indeed, Brazil plans to win that first battle of the next war. And it’s cutting the steel with which to do it.

Meanwhile, Back in the US of A…

Meanwhile in the U.S., the policy battles rage endlessly over offshore development. Authorize? Don’t authorize. Explore? Don’t explore. Lease? Don’t lease. Drill? Don’t drill. Produce? Don’t produce.

Whenever the proponents of offshore development score a win, the opponents take it all to federal court for years on end. Years later, some judge makes a decision. Then comes the inevitable appeal. And then everyone goes back to litigate some more after the appeal. There’s no end. I’ve spent my adult life watching this ping-pong match play out.

What’s at the heart of the issue? A broken political process. Or you might call it a political “process” that works too well. Really, it seems that much of the U.S. energy mind-set is stuck firmly in the past. In essence, the debate is over how to fight the last battle of the last war.

Living in a 40-Year-Old Past

For example, again and again, the opponents of offshore development in the U.S. summon up their favorite bete noir — the images of the Santa Barbara oil spill of 1969. An event from four decades ago — before most Americans now living were even born — has become the iconic reason not to develop, say, offshore California. And this is despite the fact that the exploration, drilling and environmental technology of today is far advanced from what existed 40 years ago.

Think about it. Do you have a better computer today than 40 years ago — if you even used computers back then? A better television? A better car? Are there better airliners? Better heart transplants? You get the idea. But some people learn something and never let it go.

Along those lines, the other day, I visited the facilities of Cameron Intl., here in Houston. Cameron makes blowout preventers for deep-sea drilling, and a large host of other drilling-related equipment. Having been around the oil industry for over 30 years now, I can say that the new technology for safe drilling is beyond astonishing. Just the quality control alone is awesome. For example, EVERY HEAT of steel that goes into certain of Cameron’s subsea products goes through a rigorous quality-assurance check. Every heat.

Meanwhile, it’s not just California where the offshore is off-limits. Most of the rest of the U.S. offshore is locked up as well, except the western Gulf of Mexico and (grudgingly) some of northern Alaska. As one wag has put it, when it comes to offshore development, much of the U.S. political class is living in “The No Zone.”

The Future Is Right Now

But the last battle of the last war — the Battle of Santa Barbara — is over. The images of oil on the beaches led the U.S. to shut down much of its offshore drilling effort, and for many decades. Meanwhile, the mess got cleaned up. It’s history. The energy industry figured out what happened and fixed a lot of problems. Now where do we go? Because you have to go somewhere, sometime. You can’t live in the past — at least not for too long. Or can you? Well, you can try to live in the Good Old Days, but eventually, the future will overtake you. And in the world of energy, the future is right now.

Welcome to the Future

A year ago, the price of oil was $120 per barrel and rising. Indeed, by last July, the price was $147 per barrel. And when that happened, you might recall that the world economy didn’t work very well. It was oil prices; it was bad banks; it was a lot of things that went wrong. And then the economy cratered. That took down the oil price. So now the price of oil is in the $50s.

Look back. How did oil ever reach $147 per barrel? Was there really not enough to go around? That’s what some people thought. But then why did the price suddenly tumble, if not just plain drop off a cliff? Did people anticipate a demand crash? Again, that’s what other people thought.

Now we have oil in the $50s. What does that mean? With oil in the $50s, does it mean that the world has “too much” oil? Or not enough? Well, what’s your time frame? A day? A week? A month? A year? Five years? Fifteen years?

With oil in the $50s, yes there will probably be adequate supplies for the next few months. You can calm down. The oil you’ll burn in September is being loaded onboard distant tankers right now.

But with oil in the $50s, will there be adequate oil supplies in, say, 2012, if not 2020? I doubt it. At least not for the U.S. Because with oil in the $50s, some of that 2012 oil — and much of that 2020 oil — won’t see the light of day. There’s just not enough cash flow for the energy business to do its thing — like drill enough wells. Hey, the future is now.

Future oil production requires current exploration and development. Except we’re not drilling. We’re not developing. So welcome to the future. With oil in the $50s, it’s a no-brainer to predict future shortages.

For Now, Keep Drilling

One thing is certain. If the energy industry does not stay focused and capitalized, we’re in a lot of trouble — and I mean sooner, rather than later. That’s why a big trade show like the OTC is so important. The OTC embodies the new developments in offshore technology. It gets right into your face.

Almost every booth at OTC has some item on display that’s better than what used to be on display. Yesterday, for example, I saw a remarkable new invention from FMC Technologies that dramatically improves the safety and efficiency of the “fracturing” process (“frac-ing”) by opening up shale beds to yield natural gas. It’s what the late efficiency guru Edward Deming would have called an “incremental improvement” to an existing process. But it’s brilliant and elegant. And when this new equipment goes into widespread use, it will offer a dramatic improvement.

Ideas and improvements like this from FMC Technologies — and countless more on display at the OTC — will allow the energy industry to keep providing hydrocarbon molecules to us earthlings for as long as we want to burn them. (Burn them? That’s another story entirely.)

The OTC shows off what the U.S. has at its disposal, if it chooses to develop its offshore energy resources. Here are the tools with which to fight the first battle of the next war.

And the OTC also shines a light on how many U.S. policymakers and opinion leaders are living in the past, patting themselves on the back as they fight that last battle of the last war. Meanwhile the energy clock is running down, and other nations and cultures are shopping their wares.

That’s all for now. Thanks for reading…

Until we meet again,
Byron King

May 20, 2009

Brazil Forward Looking on Oil Production was originally featured on Whiskey and Gunpowder

From Ethan, Location Unknown, about farmers growing more corn to meet demand for ethanol: “They will not use more fuel. All of the land that a farmer has is being used already to grow other crops. Farmers don’t just leave land sitting idle waiting to plant more corn. No farmer can afford to do that. Yes, corn prices will go up, but corn will be grown at the expense of other crops, not in addition to them. And I’m sorry, but if land is marginal and not currently being used, it’s not going to be used for corn, either. Marginal land grows marginal crops. It would hardly be worth the expense.”

Byron’s Comment: The individual U.S. farmer is quite a different thing than aggregate U.S. agricultural production. Large-scale agriculture in the U.S. is in many respects an industrial process that distinctly favors certain types of technology, terrain, and soil conditions. As a rule, the more crops that are grown, the more energy inputs are required. As no less an authority on the subject than the U.S. Department of Agriculture (USDA) has noted:

“The rapid adoption of new technology, improved crop varieties, improved insect and disease control, and other changes have boosted agricultural productivity [in the U.S.] so that more production can be obtained from the same cropland base. Agricultural productivity has more than doubled over the past 50 years.

“Larger farm equipment and increased use of irrigation has favored regions with large, level fields.”

Also, according to the USDA, “at its peak in 1992-95, the Conservation Reserve Program took about 36 million acres of land out of crop production.” This was out of about 440 million acres available, or about 8% of arable U.S. land.” So while one farmer might be plowing right up to the property line, there are other tracts of U.S. farmland that are sitting idle.

From Sterling, Who Knows Where He Is, Even if We Don’t: “When you read Byron King’s article, it leaves you feeling like nothing should be done to extend our energy resources. That is akin to not taking the five hours available to you on Saturday morning [to do something useful]…It does not make any sense doing that. Growing corn on otherwise unused real estate would be a sure way to get something out of it. If you have either lived through it, or have a parent that did, they used to extend gasoline even then by adding alcohol. Back during World War II, when everyone used gas-rationing coupons, I can remember an old gas pump at a filling station in a nearby town that had the word ‘ethyl’ displayed on it. That is what it was for then. Of course, there are other variations of alcohol that are more efficient, but you get the idea…And with the old-style methanol, which is the one I insist on using still as also my grandfather had from the 1920s until he died in 1966, it does very nice things for octane. The local race car gangs use it in their gas to boost the octane even further. And it does melt an ice chunk in the fuel line in the winter. It would be absolutely asinine not to use it to make gasoline go further. As far as using it in diesel fuel and a building heating plant, I don’t know if you can or not. Phooey. Wouldn’t affect the food supply for squat. Might even make the small farm closer to being economically feasible once more. Don’t need anymore of that valuable soil paved over.”

Byron’s Comment: “It leaves you feeling like nothing should be done to extend our energy resources”? Sterling, I know that you are a frequent reader, so you know that I am always writing about ideas for what to do about the future of energy supply and energy policy in the U.S., and the world at large. Let’s see…What have I discussed in some of my Whiskey & Gunpowder articles over the past two years or so? Drilling for oil, maybe? Secondary and tertiary recovery methods? Of course. But drilling alone is just not enough. How about conservation and efficiency? That is the fastest, cheapest, most readily available source of “new energy” available to everyone, everywhere.

I have discussed coal and methanol, particularly the Chinese approach to developing a vast methanol industry based on their own domestic coal reserves. I have discussed windmills and solar. I have written at length on the very fundamental idea of “strategy,” because without it, every plan is destined to fail. But this is a letters column, not a soapbox. So onto other letters.

From Jim, Location Unknown: “I teach a continuing education class for teacher certification about geology and ore deposits. Environmental questions often arise…The cost in loss to arable farmland topsoil to the Mississippi Delta from corn cultivation is as follows: The annual yield of one bushel of corn is at the sacrifice of 1,800 pounds of topsoil down the wind and the river due to erosion.”

Byron’s Comment: Interesting point, Jim. Agriculture is just one aspect of the extremely complex dynamic of the hydrologic cycle. The topsoil that erodes away from the upper Midwest is, for the most part, an ancient relic of the retreat of Pleistocene glaciers. Yes, topsoil can renew itself, but only over a period of many centuries, if not thousands of years. So by accelerating erosion of topsoil anywhere, mankind is foreclosing its agricultural future. This modern phenomenon of soil erosion simply adds to the resonance of the old saying about the Mississippi River, that it is “too thin to plow, too thick to drink.”

Another aspect of modern agriculture is chemical runoff. Fertilizers and pesticides drain from the land into the river system, and eventually make their way to the sea. Just south of the Mississippi Delta is a vast dead zone of water, where agricultural chemicals have congregated due to limited circulation in that part of the Gulf of Mexico. (Not even Hurricane Katrina, back in 2005, could stir it up all that much.) The fertilizers in the water cause algae to bloom. These bugs use up almost all of the dissolved oxygen in the water, so the fish cannot survive. This has wreaked havoc with the Louisiana fishing industry. Things are all interconnected.

From Another Jim, Location Unknown: “Byron is right on the cob, with his corny comments, but one point he made requires qualification. He said that there is ‘no free lunch.’ [But] when a lobbyist takes a politician to lunch, it is usually free for both of them. When [someone] closes out a big deal that saw him make a lot of money for simply making a few bets, then you can more or less assume that his next lunch won’t cost him anything.”

Byron’s Comment: Jim, I understand what you are saying about the power of the lobbyist crowd to extract special favors from the politicians. But this is also part and parcel of the U.S. political system. Lobbying, arm-twisting, and other forms of political and economic persuasion have been going on since time immemorial. In a way, this is another angle on the “free market,” at least the market in ideas. That is, there is a system by which private entities use their influence to, as the saying goes, “educate” the policymakers. But not all education is created equal.

My view of how things get done in the U.S. is that the more important the decision, the more you can expect to see “rational actors” do the right thing. For example, if the stakes of any given decision are relatively small or low-level, then raw politics and backdoor intrigue takes over. For an example close to my home at least, just about anything having to do with the Pennsylvania State Legislature can be viewed in terms of backroom deals, political patronage, and what people call “grease.”

But in contrast, during the Cuban Missile Crisis of 1962, the U.S. risked taking a nuclear strike from Soviet missiles in Cuba and delivering a nuclear response in kind on Russia. The stakes were, I think you will all agree, pretty high. So President Kennedy and his advisers managed to do most of the right and rational things, and worked out a deal with Soviet Premier Khrushchev and comrades to de-escalate the situation.

Wouldn’t it be nice if we could do the right and rational thing in terms of a U.S. national energy policy absent some massive, 1970s-style energy crisis slamming home again? That is, quite frankly, one of our themes in Whiskey & Gunpowder . We are looking for the right answers, or at least the right investments that will lead to the right answers.

From Donald in Texas: “Brazil is reportedly an effective user of ethanol as a vehicle fuel, but it makes it from sugar cane especially grown for the purpose.”

From “Jungle Jim,” Location Unknown: “Brazil has proven that ethanol can be used economically; it’s broken its oil dependency. If we are to remain a nation of any account, we must break ours. Yet every time that the subject is raised, ‘experts’ come forward to denigrate the idea. They are glib and clever, but their answer is always, ‘No.’ They very seldom have any positive alternative to offer, but they sure know what won’t work. The result is that our country increasingly looks like a bad remake of Waiting for Godot. We stand around hoping against hope for something good to happen, but all we hear is, ‘Nothing to be done!’ The irony is that this nation used to be famed for never taking no for answer. Now it’s all we get.”

From Yet Another Guy Named Jim, Location Unknown: “I agree with Byron…If we planted more corn on acreage equal to several times the area of Illinois, it still would supply less than half of our liquid fuel consumption. It’s not a total loss: The byproduct of an ethanol plant can be fed to cattle and swine. But diverting corn to ethanol production will have an impact on food production. Those who say, ‘If Brazil can do it, why can’t we?’ should realize corn is mostly starch that has to be converted to sugar by a malt enzyme. Brazil starts out with cane juice ready for fermentation and produces several cane crops per year. Subsidized ethanol is just another way to buy the farm vote.”

Byron’s Comment: I received quite a few e-mails referring to the Brazilian program for producing ethanol from sugar cane. I did not discuss the Brazilian program in the recent Whiskey & Gunpowder article on ethanol because I was focusing on the construction of ethanol plants in the U.S. But let’s discuss Brazil, while we are on the subject.

Brazil really does have quite a robust ethanol program going on, the product of 30 years and more of consistent national policy and massive investment. That alone should offer a sobering contrast to the on-again, off-again approach to a national energy policy in the U.S. But pointing out the flaws of the U.S. approach to producing ethanol from corn is not the same thing as saying “no.” And there is no harm in making an honest assessment of the U.S. approach, to include pointing out the contrasts with the Brazilian program.

Brazil is located, for the most part, in a tropical climate and, as some of the letters note, cultivates up to several crops per year of sugar cane that is specially bred for the purpose. Sugar cane is cultivated on a six-seven-year cycle, and its growth and cultivation requires far fewer inputs of manufactured nutrients than corn. (For example, sugar cane fixes nitrogen from the air through Gluconacetobacter diazotrophicus, and hence does not require nitrate fertilizer.) Sugar cane cultivation uses up about 1% of Brazil’s arable land, and tends not to be a significant cause of soil erosion, because the soil remains covered most of the year, or all year round. Most sugar cane fields in Brazil are not irrigated, and the sugar cane is watered solely via rainfall. Almost all of the sugar cane waste from making ethanol is fed to animals, mulched, and/or otherwise returned to the soil.

Chemical inputs to sugar cane cultivation in Brazil are so low, in most instances, that most Brazilian sugar cane farms would meet or exceed the standard U.S. definitions for “organic” agriculture. Many Brazilian sugar cane farms have entire ecosystems of flora and fauna that have evolved, literally, in the shade of the cane crops. Numerous almost-extinct species have come to thrive in and around sugar cane plantations. Compare this with the so-called “monoculture” agriculture model that dominates in many parts of the U.S., or the almost sterile soil in many agricultural areas of the U.S. that can only support crop growth via liberal application of natural gas-derived or oil-based fertilizers.

But manufacturing ethanol to use as automotive fuel is more than just an agricultural process. There are demographic and cultural variables, as well. Brazil has a population of about 184 million, or about 61% of the U.S. population. Yet Brazil has a fleet of vehicles that is only 12% of the total American fleet (28 million vehicles in Brazil, versus over 230 million vehicles in the U.S.) There is almost nothing comparable to “suburban commuting” in Brazil. Urban development in Brazil never led to affluent classes of people living in distant suburbia and commuting to work and shop. Most affluent and middle-class people in Brazil live near their workplaces and schools, or commute by train, bus, or subway to their workplaces and other destinations. In fact, in Brazil, the suburbs are pretty much synonymous with squalor and poverty. (On that subject, as applied to the evolution of U.S. suburbia, see James Kunstler’s arresting and remarkable book The Long Emergency .)

The net energy result is that Brazil’s gasoline consumption is only 4 billion gallons per year, which is supplemented by ethanol consumption of an equal amount. So 50% of what would otherwise be total gasoline demand is replaced by ethanol in Brazil. Compare Brazilian gasoline consumption of 4 billion gallons per year with a total of over 140 billion gallons per year of gasoline consumption in the U.S. In other words, Brazil’s gasoline consumption is about 2.9% (yes, you are reading it right, less than 3%) of U.S. gasoline consumption. No wonder that Brazil can meet its needs with ethanol.

So when I point out all of these facts, I am not trying to be “Dr. No” to peoples’ illusions of the future energy supply for the U.S. My view is that the “sugar cane” ethanol model of Brazil is simply not a realistic comparison to the U.S. effort to pretend to obtain its transportation fuel needs from corn-derived ethanol. In many respects, the U.S. is fooling only itself.

It is not industrially, socially, or politically difficult for Brazil to replace 50% of its gasoline requirement when that nation consumes only 8 billion gallons of transportation fuel per year. And it is helpful that Brazil has a tropical climate, in which a unique plant thrives, growing in the rain and under tropical conditions, and utilizing less than 1% of Brazil’s arable land. Good for Brazil! It is just that you cannot extrapolate Brazil’s program and scale it up to the massive and voluminous U.S. requirement for transportation fuel, certainly not by using corn.

The U.S. can do no such thing that Brazil is accomplishing. Circumstances are just plain different. So the U.S. is wasting its resources and time in a boondoggle effort to make significant amounts of transportation fuel from corn that will eventually prove to be futile. The American political class needs to stop viewing Peak Oil, and the ominous future energy situation of the world, as just another political issue. It is long past time to get rational and serious about developing a long-term energy policy for the country.

I hope that these comments have provided you with some food for thought, if not a desire for a stiff shot of Old Overholt Pennsylvania Rye Whiskey. Thank you for reading Whiskey & Gunpowder .

Until we meet again…

Byron W. King

January 17, 2007

Letters to the Editor: Ethanol, Part II was originally featured on Whiskey and Gunpowder